- Wall Street is heading for another volatile week, but the bulls could get a further reprieve if calm brought on by the Federal Reserve's liquidity injections and a surprise cut in its discount rate lasts.
The coming week has a slew of economic indicators, including July existing home sales and preliminary figures on second-quarter gross domestic product, which should shed more light on the economy's health.
But paramount to Wall Street will be what the data says about the prospects for a cut in the fed funds rate as the housing slump fuels worries that the sector's slowdown could tip the world's largest economy into a recession.
"Wall Street is banking on a mid-cycle slowdown that was expected but could get worse, suggesting that the Fed may want to lower the fed funds rate," said Rob Goodman, director of investments for Fairport Asset Management, in Cleveland. "A cut," he said, "is not out of the realm of possibilities ... and I don't expect Wall Street to be too negative going forward."
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But even with the burgeoning calm, money managers and analysts say a sense that there could yet be more upheaval due to weakness in the housing industry still pervades the market and could make for cautious trading ahead of the Labor Day holiday on Monday, Sept. 3. Volume is likely to be lighter than normal with many of Wall Street's denizens on vacation or cutting the week short for the last long weekend of summer.
Lots of economic numbers and exceptionally light volume often is a recipe for volatility. The Chicago Board Options Exchange Volatility Index, also known as Wall Street's fear gauge, ended Friday at 20.72, down 8.4 percent. The VIX is down almost 45 percent from Aug. 16, when it climbed to 37.50, a five-year high.
Dow up 7 percent for the year
More worrisome, analysts and money managers said would be any news that pointed to further turmoil in the subprime mortgage sector. Last week, several mortgage providers, including Accredited Home Lenders Holding Co, said they were cutting hundreds of jobs as the lending squeeze and lingering jitters in the credit markets take their toll.
Still, the clamor for a cut in the fed funds rate is providing a cushion for stocks as shown by Friday's stock market advance. Surprisingly strong data on July new home sales and durable goods orders contributed to the market's calmer tone.
Friday's gains sent the Dow Jones industrial average up 2.3 percent for the week, its best weekly advance since April 22. Both the Nasdaq Composite Index and the S&P 500 notched their biggest weekly gains in five months, with the Nasdaq rising 2.9 percent and the S&P gaining 2.3 percent.
For the year, the Dow is up 7.35 percent, while the S&P 500 is up 4.31 percent and the Nasdaq is up 6.68 percent. Before the latest turmoil, data showing the economy's pace of growth was stronger than expected would have rattled investors, quashing the oft-repeated view of a "Goldilocks" scenario - an economy that's neither too hot nor too cold.
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But with investors still uncertain about the extent of the impact of the faltering housing market and losses from subprime mortgages, Wall Street is set to latch on to any news showing that the economy is weathering the real estate downturn, albeit with bumps along the way.
"If the consumer can come out of subprime OK, then the market will come out of subprime OK," said Jim Fehrenbach, head of Nasdaq trading at Piper Jaffray, in Minneapolis.
He said the jobs report, due before the Fed's policy-setters meet on Sept. 18 to decide on interest rates, is among the pieces of data that may seal the market's fate in the days ahead, along with reports on housing. "If those numbers turn south, that's going to really increase recession fears," Fehrenbach said.
But the August jobs report is still a ways off. The nonfarm payrolls report for August will be released on Sept. 7.
Housing, Fed Minutes and GDP
Looking at this week, however, the economic calendar promises plenty of numbers to crunch and there could be some surprises. Among the week's highlights will be data on existing home sales on Monday; the S&P/Case-Shiller Home Price Index Tuesday, along with the Conference Board's August consumer confidence index and weekly store sales.
The minutes from the Fed's most recent policy meeting on Aug. 7, at which the Fed left its benchmark fed funds rate unchanged at 5.25 percent, are also due Tuesday. The Federal Open Market Committee's August minutes could be particularly illuminating on the central bank's thinking before its surprise cut in the discount rate on Aug. 17 and its statement afterward saying "tighter credit conditions and increased uncertainty have the potential to restrain economic growth going forward."
Weekly data on mortgage applications will be released on Wednesday, while the government's preliminary report on second-quarter GDP is due out on Thursday, along with weekly data on initial jobless claims. This will be the second look at gross domestic product, which measures the output of all goods and services within U.S. borders, for the second quarter. The advance estimates of GDP were released on July 27.
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Friday's data features a reading on July personal income and spending, a report that includes one of the Fed's favored consumer price inflation gauges, the core PCE price index. (PCE refers to "personal consumption expenditures." The core PCE price index excludes volatile food and energy prices.)
Also on tap for Friday is the release of the August reading of business activity in the U.S. Midwest from the National Association of Purchasing Management-Chicago and data on U.S. factory orders for July.
The corporate earnings agenda is thin, with tax preparer H&R Block (Charts, Fortune 500) and computer maker Dell (Charts, Fortune 500) set to release quarterly results on Thursday.
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