Stocks surge on rate cut

NEW YORK (CNNMoney.com) -- Stocks rallied and bonds slumped Wednesday after the Federal Reserve cut a key short-term interest rate by a quarter point, as expected, and implied that it doesn't need to cut rates again for the time being.

The Dow Jones industrial average (Charts) added 137 points or 1 percent, while the S&P 500 (Charts) index added 1.2 percent. The Nasdaq composite (Charts) added 1.5 percent and ended at a fresh 2007 high and its highest close in nearly seven years.

Declines were broad based, with all but two of the Dow's 30 components rallying, led by Microsoft and other technology stocks. (For details, click here.)

Stocks had risen through the early afternoon as investors responded to a strong third-quarter GDP growth report that showed inflation remained contained.

Oil prices surged to an all-time high above $94 a barrel and gold prices neared the $800 an ounce mark. However, these potentially inflationary signs seemed to have little impact on broad stock trading - and gave a lift to metal and energy sector stocks.

The stock market was extremely volatile in the first half hour after the Fed announcement, as investors digested the statement, but eventually turned higher, rallying into the close.

"The statement was well put and well received," said Timothy Ghriskey, chief investment officer at Solaris Asset Management. "I think the market is reading it that the Fed feels the environment is not dire, that we are not heading toward a recession and that they acted before there was a real danger of recession."

Central bank officials cut the fed funds rate Wednesday by a quarter-percentage point to 4.50 percent, as expected. The decision was not unanimous, with Kansas City Fed President Thomas M. Hoenig preferring no change.

The cut in October follows a half-point cut made on Sept. 18. That cut was made to loosen up the frozen credit markets and to try to stop the financial market crisis and housing market collapse from sending the broad economy into a recession.

In the closely-watched statement following Wednesday's decision, the bankers said that while conditions in financial markets have improved somewhat since the Sept. meeting, "the pace of economic expansion will likely slow in the near term, partly reflecting the intensification of the housing correction."

Although the quarter point cut wasn't much of a surprise, the statement was a little more hawkish than what most people expected, and that's sent Treasury prices lower and initially threw off stock investors, said Stephen Stanley, chief economist at RBS Greenwich Capital.

"I think they signaled more than once in the statement that they pretty much are done for now," he said. "It doesn't mean that they won't cut again if they have to, but it seems like they are trying to prepare the market for the possibility that they are going to be on hold for a bit."

The bankers also acknowledged that while core inflation has remained moderate, the recent run up in oil and commodity prices, among other factors, could drive up inflationary pressures.

Fed watchers who were calling for the central bank to hold steady this time had been concerned that lowering borrowing rates would increase pricing pressure even more - and that part of the statement seemed to address those concerns.

"The Fed's most valuable asset is its inflation-fighting credentials," said Stanley. "Staying on top of inflation even while easing is the bankers' way of telling people that they are not dropping the ball."

The statement seemed to suggest a return to a balance between concerns of rising inflation and slower growth, said Donald Selkin, director of research at Joseph Stevens.

"I think the market liked it because it was a step in the right direction for economic growth," Selkin said, "and the GDP report this morning was also good."

The Fed was also perhaps looking to remind Wall Street that it shouldn't expect the central bank to step in whenever it gets itself into trouble, a la the bank freeing up liquidity amid the credit crunch and subprime crisis.

"The Fed wasn't going to disappoint Wall Street today, but it also wanted to manage expectations carefully and make sure to communicate that it wasn't committing itself to regular rate cuts," said Alan Skrainka, chief market strategist at Edward Jones.

Looking forward, the next key point for markets will be Friday's October jobs report, said Peter Cardillo, chief market economist at Avalon Partners. He said that because the morning's ADP employment report was stronger than expected, that could be a good sign for Friday's broader report.

Treasury prices slumped on bets that the statement implies the Federal Reserve is not going to cut rates again anytime soon. The selloff boosted the yield on the benchmark 10-year note to 4.47 percent from 4.38 percent late Tuesday. Bond prices and yields move in opposite directions.

Market breadth was positive. On the New York Stock Exchange, winners beat losers nearly by almost three to one on volume of 1.56 billion shares. On the Nasdaq, advancers topped decliners by almost two to one on volume of 2.53 billion shares.

Gains were broad based, with 28 of 30 Dow stocks rising, led by Microsoft (Charts, Fortune 500), which hit a 52-week high. Intel (Charts, Fortune 500), IBM (Charts, Fortune 500), Caterpillar (Charts, Fortune 500), DuPont (Charts, Fortune 500) and GM (Charts, Fortune 500) were among the other big gainers.

Among other movers, Google (Charts, Fortune 500) topped $700 for the first time ever Wednesday. (Full story).

MasterCard (Charts) jumped almost 21 percent after reporting higher quarterly earnings that beat estimates.

Newmont Mining (Charts, Fortune 500) surged 9.6 percent after the gold miner reported higher quarterly sales and earnings that topped forecasts.

Approximately 69 percent of the S&P 500 has reported September quarter results, with earnings on track to have fallen 1.2 percent from a year ago, according to the latest Thomson Financial estimates. That's a blended figure that combines reported and expected earnings and suggests the third-quarter will end up having seen the slowest growth in at least five years.

U.S. light crude oil for December delivery briefly hit an intraday record high of $94.74 a barrel on the New York Mercantile Exchange, before pulling back a bit to settle at a new record of $94.53.

Oil prices had already risen after the government's weekly report showed a surprise drop in crude inventories, but the gains accelerated after the Fed announcement.

COMEX gold for December delivery settled at $795.30 an ounce on the New York Mercantile Exchange and hit a high of $800.80 in electronic activity, a close to 27-year high.

In currency trading, the dollar fell to another record low against the euro and inched higher versus the yen.

Ahead of the Fed meeting, investors waded through a busy morning for economic news.

The economy grew at a 3.9 percent annual rate in the third quarter, the government said, after having grown at a 3.8 percent annual rate last quarter. Economists surveyed by Briefing.com thought it would grow at a 3.1 percent annual rate.

The GDP price deflator, the report's inflation component, rose at a pace of 0.8 percent in the quarter, much slower than what economists were forecasting. The more closely-watched "core" PCE deflator rose at an annual rate of 1.8 percent, faster than the previous quarter but still within the Fed's presumed comfort zone.

Another government report, the employment cost index, rose a smaller-than-expected 0.8 percent in the third quarter.

The Chicago PMI, a regional read on manufacturing, fell to 49.7 in October, from 54.2 in September. Economists thought it would fall to 53.0.

September construction spending rose 0.3 percent after falling 0.2 percent in the previous month. Economists thought it would fall 0.4 percent.