By Steven C. Johnson
NEW YORK (Reuters) - While a government plan to mop up billions of dollars of bad debt from bank balance sheets has lifted spirits, few on Wall Street will enter this week ready to declare a new bull run for the stock market.
That things are looking brighter than they did just days ago is without question. A week that began with the Dow plunging 504 points in a day -- its worst performance since markets reopened after the September 11, 2001, attacks -- ended with a sharp rally that left the S&P with its biggest two-day rally since October 1987.
The rebound came as governments worldwide unveiled a series of steps to free credit markets from a deep freeze and prevent a run on assets, from stocks to money market mutual funds.
U.S. and British authorities slapped temporary bans on short-selling, while the U.S. Treasury said it would use $50 billion to back money market mutual funds, traditionally considered as safe as cash, whose asset values fell below $1 a share.
Over the weekend, the Bush administration proposed a $700 billion fund to buy distressed assets from banks. The administration and congressional leadership were debating details, however, and no agreement on its ultimate size and scope is expected before the end of the week.
That leaves numerous unanswered questions about the ability of these measures to contain a credit crunch that has kept global markets lurching from one crisis to another for more than a year.
"The bottom line is, it doesn't do anything to address the genesis of the whole problem, which is housing," said Bill Strazzullo, partner and chief market strategist at Bell Curve Trading in Boston.
"It treats the symptoms, not the root problem. Housing prices will keep going down, and that means more bad loans, more write-downs, more pressure on bank balance sheets."
A sharp slide in U.S. housing prices and a subsequent rise in delinquencies on home loans has caused massive losses on mortgage-backed bonds that in recent years have spread across the global financial landscape.
Casualties have been piling up ever since. Last week alone, Lehman Brothers declared bankruptcy, Merrill Lynch was pushed into a forced sale to Bank of America and the government bailed out insurance giant American International Group.
That has left investors reluctant to get too excited about the implications of the Treasury's bold new steps.
"It's like having a heart attack and you go and get your chest cracked open and get it fixed. But the next morning, you're still hurting," said Warren Simpson, managing director at Stephens Capital management in Little Rock, Arkansas.
"I think we're at the point where we are about to get our chest cracked open, but we're nowhere near healed yet."
Strazzullo said the Standard & Poor's 500 index would have to trade above 1,260 for at least a week and close above 1,290 to signal a sustained market turn.
"I want to see us clear that hurdle before I feel the worst is over," he said. "A day means nothing in this atmosphere. Two days ago, it looked like the world was coming to an end."
On Friday the Dow Jones industrial average closed up 368.75 points, or 3.35 percent, at 11,388.44. The Standard & Poor's 500 Index advanced 48.57 points, or 4.03 percent, to 1,255.08. The Nasdaq Composite Index shot up 74.80 points, or 3.40 percent, to 2,273.90.
RUNNING AWAY FROM RISK
Whether stocks will have the ability to hold at those levels this week is far from clear. Some investors said the temporary ban on short selling was lending support to the market on Friday that otherwise would not have been there.
As Michael Panzner, author of the book "Financial Armageddon," put it on his blog on Friday: "Given that the rebound was explicitly triggered by the prospect of a dramatic and far-reaching government intervention, that alone should be a reason for pessimism. History suggests that the impact of such efforts tends to be relatively short-lived."
Indeed, strategists say many market participants will remain wary of taking on even minimal risk this week. The government's rescue plans may even contribute to this.
"Now that people know money market funds are going to be safe, they may just be putting their money in there. They may not feel any need to keep it in the stock market," said Ray Rund, head of research at Shaker Investments in Cleveland, Ohio.
Economic data was likely to take a back seat to credit issues in the coming week, investors said, as the market waits for more details about the Treasury's plan to buy up risky loans corroding bank balance sheets.
John Praveen, chief investment strategist at Prudential International Investments Advisers in Newark, New Jersey, said the plan should stabilize the market but added it was unclear how enthusiastic Congress would be about it.
"If we weren't in an election year, bipartisan spirit might have been a bit higher, so the focus will be not only on what kind of package Treasury comes out with but on the response of Congress and the terms on which it will pass it," he said.
Praveen said the market stands to rally if a buyer emerges for embattled savings and loan Washington Mutual (WM), another credit crunch victim, or progress is made in merger talks between Morgan Stanley (MS) and Wachovia (WB).
But at some point, the focus will have to return to the economy. "The fundamentals are still bad. Housing, credit-card debt, consumer spending, you name it," said Weston Boone, vice president of listed trading at Stifel Nicolaus Capital Markets in Baltimore.
Subodh Kumar, chief investment strategist at Subodh Kumar & Associates in Toronto, added: "Financials may have moved back from the abyss, but we have to see whether we get out of the earnings recession and whether the economy improves.
"These issues slipped to the background the last few days."
(Additional reporting by Kristina Cooke and Ellis Mnyandu; Editing by Bernard Orr and Maureen Bavdek)
(The Stocks Outlook column appears every Sunday. Comments or questions on this one can be sent to steven.c.johnson(at)thomsonreuters.com)
