Tuesday, December 4, 2007

Traders See 50% Odds Fed Will Cut Rate by Half Point (Update2)

By Lynn Thomasson and Eric Martin

Dec. 4 (Bloomberg) -- Odds the Federal Reserve will cut interest rates by half a point next week surpassed 50 percent for the first time, according to trading in futures contracts, reflecting concern banks face more losses on securities tied to subprime loans.

Chances the central bank will lower its target for overnight loans between banks to 4 percent surged more than 25-fold during the past week after policy makers froze assets in a state-run investment account for Florida schools and analysts forecast deeper losses at the world's largest investment banks.

``The general consensus is economic growth is going to slow down in the next couple of quarters, maybe a little more aggressively than initially thought,'' said Michael Cuggino, who oversees $1.5 billion as president of Permanent Portfolio Family of Funds in San Francisco. ``It makes sense they might go a little further'' with cutting rates.

The Fed has already lowered borrowing costs by 0.75 percentage point since September as mounting credit-market turmoil and slowing growth threatened the country's six-year economic expansion. Policy makers make their next rate announcement on Dec. 11.

Odds of a half-point cut, which were 2 percent a week ago, reached 52 percent as of 4:17 p.m. in New York.

No Chance

Last month, futures contracts showed the no chance of another cut after the Fed said third-quarter economic growth was ``solid'' and ``strains in financial markets have eased'' at its previous rate meeting. If the Fed shifts to 4 percent next week, that would be the lowest rate target at the central bank since November 2005.

``A 50 basis point cut was out of the question two weeks ago and now it has a 50 percent probability,'' said Rick Campagna, who helps manage $3 billion at Provident Investment Counsel in Pasadena, California. ``That's amazing. It's because of all the news, like today, that the credit crunch is still in full force.''

U.S. stocks fell for a second day after JPMorgan Chase & Co. said deteriorating credit markets will reduce profits at the four biggest securities firms. The Standard & Poor's 500 Index lost 0.7 percent to 1,462.79.

Increased bets on a third straight Fed rate cut came as the three-month London interbank offered rate for dollars extended its advance begun Nov. 14, rising to 5.15 percent. That's 65 basis points over the Fed's target, the widest gap since Sept. 18, when policy makers lowered their benchmark rate for the first time in more than four years.

Yields on two-year Treasury notes fell to 2.85 percent yesterday, the lowest since November 2004, as traders stepped up wagers that the Fed will again reduce rates. Today, the yield rebounded to 2.86 percent.

``This credit crisis isn't over and we haven't seen the bottom,'' said Campagna. ``The Fed hasn't reacted fast enough.''

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