The Market: What the Pros Are Saying

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This pattern is a fake-out at its best.…When there are no more weak buyers left to hold the market up off of the morning lows, sellers take charge again, and all of that supply sends price down sharply in late trading. Buyers who thought they got in at great levels are caught in the headlights and flood the market with a second wave of selling.

Tony Crescenzi, chef bond market strategist, Miller Tabak

The January fed funds future is priced for just 14% odds that the Fed will hike the funds rate by 25 basis points by the end of 2008, the lowest odds of a hike since the notion of a hike began seeping into the market after the Fed's last rate cut on Apr. 30. No hike is seen until next April, with the market placing 78% odds on a hike occurring by that time. Additionally, the market sees the funds rate at 2.295% in mid-2009 (up from 2%, currently), down 5.5 basis points on the day.

Today's drop in rate hike odds partly reflects [the 15,000 rise in weekly initial] jobless claims. The sharp lowering of rate hike odds seen in recent weeks is in response to expectations for much weaker economic growth in the quarters ahead, particularly in the final quarter of the year and the first quarter of 2009, as well as improvements in the inflation outlook stemming from the weaker economy, the dollar rally, and lower commodity prices. Rate hike odds might switch toward rate cut odds if employment statistics indicate deepening economic weakness, and this seems a fair bet based on the elevated level of jobless claims. Barring a substantial weakening of economic conditions, however, the Fed would be best served resisting any clamoring for interest-rate cuts and instead defending the new, lower inflation rate that evolves from economic and financial conditions, lest the inflation rate accelerate again.

Action Economics

San Francisco Federal Reserve President Janet Yellen said the U.S. credit crunch is "severe" and could be "deepening" in her Sept. 4 speech on "The U.S. Economic Situation and Challenges for Monetary Policy." She continues to look for sluggish growth through the second half of the year. She's concerned that house prices may have to decline further before reaching bottom, but she does see some tentative signs of stabilization in new home sales. Inflation expectations have been relatively "well contained," but while inflation risks have diminished recently, they are still at the forefront of concerns. The drop in commodities and the slack in the labor force should damp inflation pressures, and she expects prices to decelerate to just over 2% by next year.

Dallas Fed President Richard Fisher said consumer price trends are the worst in about 26 years, and he believes there is about a 50% chance that inflation will accelerate, according to comments from his Sept. 4 speech in Houston. He also said growth is likely to remain anemic through the rest of this year as the housing sector has yet to hit bottom. He also acknowledged that creditors are tightening their standards. But, he is not sure if the slower growth will help mute price pressures.