Why the Federal Reserve's Announcement Sent Stocks Soaring

The market's recent rally to all-time highs appeared to be in jeopardy at the beginning of the week following the unexpected bailout of Cyprus on Sunday. But if yesterday and today are any indication, the market has since brushed the bad news off. After climbing marginally yesterday, the Dow Jones Industrial Average (DJINDICES: ^DJI  ) is up an impressive 78 points, or 0.54%, with roughly an hour left in the trading session.

On its face, the Cyprus bailout seems more like a tempest in a teapot (to steal a phrase from Jamie Dimon) than a serious economic crisis that would roil the international financial system. At $10 billion, the cost to the eurozone and International Monetary Fund hardly registers on the economic Richter scale. But given the media's obsession with the matter, it's clearly not the size of the bailout that matters. The devil, as they say, is in the details.

The most contentious aspect of the bailout concerns the country's proposed manner of meeting its obligations, as it must come up with 5.8 billion euros to unlock the 10 billion euro package offered by the EU and IMF. Over the weekend, the parliament in Cyprus tentatively agreed to fund its portion by a levy on bank deposits. As my colleague Morgan Housel discussed, depositors with less than 100,000 euros in the bank would face a 6.75% haircut, while those with more than that figure would face a 9.9% tax.

While the proposed levy was subsequently amended to exclude depositors with less than 20,000 euros in a bank account, it was formally voted down yesterday by the nation's politicians. If anything, however, this only makes the situation worse. As an article on our site noted this morning: "Tuesday's decisive rejection of the plan to take a slice of all deposits above 20,000 euros ($25,888) has left the country's bailout in question. Without the bailout, the Cypriot banking sector would collapse, devastating the country's economy and potentially causing it to leave the euro."

Beyond Cyprus, the most concrete catalyst for the market's ascent today was the anticipated -- and now released -- announcement by the Federal Reserve regarding its economic outlook. While analysts and commentators had been speculating for months that the Fed may back away from its former commitment to keep interest rates low for an extended time period, today's announcement seems to contradict that narrative.

After noting that the domestic economy appears to have returned "to moderate economic growth following a pause late last year," the central bank's monetary-policy committee nevertheless noted that it "continues to see downside risks to the economic outlook [and] also anticipates that inflation over the medium term likely will run at or below its 2 percent objective." Given this, the Fed will continue its current program of buying "additional agency mortgage-backed securities at a pace of $40 billion per month and longer-term Treasury securities at a pace of $45 billion per month." In other words, it will carry on with the status quo.

On the heels of this news, shares of the nation's largest banks, JPMorgan Chase (NYSE: JPM  ) and Bank of America (NYSE: BAC  ) , are up by 0.1% and 1%, respectively. Both banks rely to a great extent on the housing market to generate revenue and earnings. And the housing market, in turn, is square in the Fed's crosshairs, given its massive monthly purchases of agency mortgage-back securities.

It's also for this reason that shares of homebuilders are up today. Lennar (NYSE: LEN  ) is up 5.1%, led only by Toll Brothers (NYSE: TOL  ) , which is up by 5.6%. This rally is also being fueled by Lennar's better-than-expected earnings release this morning. The nation's third-largest homebuilder saw earnings per share rise by 226% compared with the same quarter last year.

According to Lennar CEO Stuart Miller, "Current market conditions are driven by strong demand resulting from low interest rates and attractive home prices, which have led to very affordable monthly payments, compared to increasing rental rates." He went on to note that "supply continues to be limited by low home inventories and fewer competing homebuilders."

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  • Report this Comment On March 20, 2013, at 5:25 PM, my2cents4u wrote:

    From Wikipedia:

    "One of the earliest occurrences in print of the modern version is in 1815, where Britain's Lord Chancellor Thurlow, sometime during his tenure of 1783-1792, is quoted as referring to a popular uprising on the Isle of Mann as a "tempest in a teapot".

    Jamie Dimon stole the phrase, too.

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