Hope for a rate cut stokes rally

Wall Street’s bulls Wednesday again pinned their hopes on the Federal Reserve as the Dow index rocketed more than 330 points after a top central bank official hinted at another interest rate cut.

Fed Vice Chairman Donald Kohn helped spark a wave of buying after he said in a speech that the financial system faced “increased turbulence” and that policymakers would remain “flexible” in dealing with the economic ill effects of the housing crisis and credit crunch.

His remarks were widely interpreted as a sign that the Fed would lower short-term rates at its Dec. 11 meeting -- which would be the third cut in three months.

In heavy trading, the Dow industrials leaped 331.01 points, or 2.6%, to 13,289.45, adding to the 215-point jump Tuesday.

The surge was abetted by a plunge in oil prices, enthusiasm about online holiday sales on Cyber Monday and the general perception that stocks had fallen too far, too fast this month.

The market has been “as negative in terms of emotion as I’ve ever seen,” said Bill Buechler, president of Buechler Capital Asset Management in La Jolla. That often can set the scene for at least a short-term rebound.

But even as the battered market posted its biggest two-day jump in years, some analysts warned investors against betting on a quick fix for the financial system’s troubles.

“Here we are again, counting on another rate cut to save the stock market, which will probably end equally as badly” as the aftermath of the first rate cut Sept. 18, said Joe Battipaglia, market strategist at brokerage Stifel Nicolaus.

Despite the Fed’s efforts to ease credit, Wall Street has swung wildly in recent weeks and the general trend has been down as major banks and brokerages continued to warn about deepening losses on mortgage-related loans.

As of Monday, the Dow and other key stock indexes were down more than 10% from their recent peaks -- the first official market “correction” since early in 2003.

“There are areas of the [credit] markets that aren’t going to be helped by rate cuts,” said Ethan Harris, an economist at brokerage Lehman Bros. in New York. It’s too late for many homeowners facing foreclosure or who have adjustable-rate mortgages that will reset next year, he said.

Nonetheless, it’s better in a financial crisis to have lower interest rates than steady or higher rates, analysts said, and that’s why the hope of more Fed cuts can still fuel a rally in a depressed market.

Other central bank officials in recent weeks have guided the markets away from the idea of a rate reduction Dec. 11, and that had added to downward pressure on share prices.

Kohn appeared to contradict his peers. And his status as No. 2 at the Fed, after Chairman Ben S. Bernanke, gave more weight to his comments, experts said.

“His speech was a way for the Fed to open the door” to another drop in rates, Harris said.

The economic news on Wednesday provided a sobering backdrop for Kohn’s remarks. The Fed said in its latest report on regional economic trends that “reports on retail spending were downbeat in general.”

Separately, the National Assn. of Realtors said sales of existing homes slumped again in October.

Nodding to Wall Street’s concern that the economy could slide into recession because of the housing market turmoil and a cutback in lending by some banks, the 65-year-old Kohn said that “uncertainties about the economic outlook are unusually high right now.”

Those uncertainties, he said, “require flexible and pragmatic policymaking” by the Fed.

The stock market soared at the start of trading Wednesday and continued to climb steadily through the session, building on Tuesday’s rally that began after struggling banking giant Citigroup said it received a $7.5-billion cash infusion from the investment fund of Abu Dhabi.

Beaten-down financial stocks led the way. Citigroup surged $1.97 to $32.29, mortgage titan Freddie Mac jumped $3.69 to $29.42 and Merrill Lynch was up $4.72 to $57.79.

But investors snapped up shares across the spectrum. Winners topped losers by almost 7 to 1 on the New York Stock Exchange and by nearly 4 to 1 on Nasdaq.

The Dow’s 331-point gain was its biggest since it rose 336 points Sept. 18, when the Fed cut its benchmark short-term rate to 4.75% from 5.25%, the first reduction in four years. The rate was cut to 4.50% on Oct. 31.

Gains in other key indexes Wednesday were slightly smaller than what they racked up Nov. 13, when Wal-Mart Stores helped spark a one-day rebound after giving a relatively upbeat earnings forecast.

The Standard & Poor’s 500 index soared 40.79 points, or 2.9%, to 1,469.02 on Wednesday, just shy of its 41.87-point advance Nov. 13.

The Nasdaq composite, up 82.11 points, or 3.2%, to 2,662.91 on Wednesday, had surged 89.52 points Nov. 13.

Some bulls pointed to the total market gain Tuesday and Wednesday, which for the Dow was 546 points, or 4.3% -- the biggest two-day percentage rise since November 2002, near the start of the current bull market.

Bob Doll, head of stock investing at money manager BlackRock Inc., said the combination of Kohn’s comments, tumbling oil prices (crude futures slumped $3.80 to $90.62 a barrel in New York) and a healthy report on online shopping sales energized investors.

“You couldn’t ask for a better recipe for a better-than-300-point day,” he said.

Among Internet-related issues, Amazon.com soared $4.71 to $90.30 and Google jumped $18.69 to $692.26.

Wall Street bulls held out hope that the market could add to its gains in December, which is traditionally a strong month for stocks. Their optimism is rooted in the belief that although the economy is slowing, it will avoid a recession, giving investors more confidence about 2008.

Many investors who have fled into the relative safety of Treasury bonds in recent weeks will be lured back to stocks if they fear they will miss a significant rebound, some analysts said.

“People have already acted with their feet and moved to a very conservative posture,” said Duncan W. Richardson, chief equity investment officer at mutual fund company Eaton Vance.

On Wednesday, Treasury bond yields rose as some investors sold bonds to buy stocks. The 10-year T-note yield ended at 4.04%, up from 3.93% on Tuesday and a three-year low of 3.84% on Monday.

walter.hamilton@latimes.com

Times staff writer Tom Petruno in Los Angeles contributed to this report.