To say last week was turbulent is to understate the obvious. Neither the debt nor equity markets have witnessed such volatility since September 2001. To wit: the Dow Jones Industrial Average dropped over 700 points early in the week before rallying late in the week to reclaim over half its losses.
Meanwhile, short-term Treasury issues soared. In fact, a run on three-month Treasury bills sent yields lower by as much as 72 basis points, producing the biggest yield decline since October 1987. Further up the duration scale, two-year Treasury-note yields fell to lows unseen in nearly two years.
The well-documented cause for last week's wild swings was the subprime mortgage market and financial concerns over Countrywide Financial, the national's largest mortgage lender. Tightening access to short-term financing forced Countrywide to tap an entire $11.5 billion bank line, prompting one Merrill Lynch analyst to reduce Countrywide's stock to a "sell" (though he'd issued a "buy" recommendation only two days earlier) and to raise the specter of bankruptcy.
In response to what was fast becoming a panicked market, the Federal Reserve reduced the discount rate - the rate at which the Fed makes direct loans to banks - by 0.5% to 5.75%. (Lowering the discount rate encourages the supply of short-term financing instruments like commercial paper, which are a key financing tool in the mortgage market.) Moreover, the Fed said it's prepared to take additional action in order to mitigate further damage.
The preoccupation with Countrywide et al. made the week's scheduled slate of meaningful economic releases seem almost meaningless, but they weren't. On that front, the consumer-price index rose 0.1% in July from June, while core producer prices - less food and energy prices - rose a less-than-expected 0.1%. Both reports helped ease inflation concerns (making the Fed's discount-rate cut more plausible).
The prime mortgage market's response was relatively muted to the nonstop action. The 30-year fixed-rate mortgage added five basis points to average 6.62%, the 15-year fixed-rate mortgage added four basis points to average 6.30%, while the five-year Treasury-indexed hybrid adjustable-rate mortgage added two basis points to average 6.35%, according to Freddie Mac's weekly survey. Average points paid were 0.5.