More Stock Volatility Next Week As Fed Battles Credit Woes

NEW YORK (MarketWatch) -- Stocks are expected to remain volatile next week, as investors weigh the interventions by global central banks to stabilize credit markets, analysts said.

"We're still going to see a lot of volatility back and forth," said Paul Mendelsohn, chief investment strategist at Windham Financial Services. "[Friday] was shaping up to be a disaster if the Fed hadn't come in and intervened."

On Friday, stocks crawled back from earlier steep losses after the Federal Reserve and other major central banks intervened in an attempt to jump start stalled credit markets.

The Dow Jones Industrial Average finished down 31 points at 13,239 but that was well off an earlier low of 13,057.

For the week, the Dow finished up 0.4%. The S&P 500 index rose 0.5 points to 1,453 on Friday, for a weekly gain of 1.4%. The Nasdaq Composite fell 11 points to 2,544 Friday but it still rose 1.3%.

"The first thing the Fed can do is to see if they can stabilize the situation without having to [cut interest rates," Mendelsohn said.

"By Monday, the Fed will be assessing the strategy to see if it is working," he said. "Right now, we get the feeling that we still don't know how bad it is underneath the surface, and that maybe they're in the dark as well."

On Thursday, global markets posted steep losses, including a nearly 400-point drop for the Dow, after French bank BNP Paribas had suspended three funds with exposure to bad U.S. home loans.

The market had rallied the previous three sessions as investors were comforted by the Fed's assessment that the U.S. economy remained on solid ground, even amid the turmoil in credit markets.

"Recent market action can best be summed up as manic depressive/bipolar," said Robert Pavlik, chief investment officer at Oaktree Asset Management, in a note. "The market has to get over its near-term concerns and that will take time."

Central banks step in

Troubles linked to bad bets on subprime mortgages had already emerged at a number of hedge funds, starting with two owned by Bear Stearns last month, and at other financial institutions in the U.S., Australia and Germany.

The situation got worse through the end of July as firms trying to raise money in credit markets, either to fund the buy-outs of other companies, or for other needs such as financing share buy-backs and dividends, found it increasingly hard to find willing lenders.

On Thursday, in moves unseen since after September 11, 2001, the Fed and other central banks began injecting liquidity in the global financial system, and stepped up the pace on Friday to encourage borrowers and lenders.

"It's helping that central banks are doing their job," said Art Hogan, chief market strategist at Jefferies & Co. "There is a crisis in the credit market and it's an important assurance that they'll be there."

"But for some, this could be a sign that the situation is worse than we thought it was," Hogan said. "We still have to look at how much collateral damage is out there. The mood is not that 'we've got everything figured out' yet."

Economic data may help focus

Without key economic data to provide guidance, the market didn't have any direction to help focus the market's attention away from credit problems, according to Oaktree's Pavlik.

"Next week, the economic calendar is full," he said. "It should help redirect the market's focus."

July retail sales on Monday will be followed by key July inflation readings - the producer price index on Tuesday and the consumer price index on Wednesday.

The Empire State's manufacturing index for August is also due out on Wednesday, along with industrial production and capacity figures for July. Thursday will see the Philadelphia region's manufacturing index for August, along with July housing starts data.

Wal-Mart, Home Depot on tap

Both Wal-Mart and Home Depot will eport earnings on Tuesday, which could provide clues on how well consumers have been coping with high energy prices, a stumbling housing market and tougher terms to borrow money.

Hewlett-Packard will be the last Dow component to report second-quarter earnings on Tuesday.

Earnings growth for S&P 500 companies in the second quarter is currently pegged at 7.9%, nearly double the 4.1% expected on July 1, according to Thomson Financials. Of the 447 companies reporting so far, 66% have beat estimates, 14% have matched expectations, and 19% fell short.

But only 53 companies have provided forward guidance so far, a little over half as many as the 100 that did so last year.

While financial firms, which would be the most likely hit by ongoing credit concerns, don't typically provide guidance, the overall trend could signal growing uncertainty among corporate America as a whole.

"Corporations are still doing fine earnings wise," said Windham's Mendelsohn. "But the market is a discounting mechanism and it looks at earnings going forward."

By Nick Godt