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The credit markets are still under considerable pressure, though investor confidence in corporate debt seems to be on the rebound. Over the past week, the Federal Reserve made another attempt at reviving confidence among borrowers and lenders to thaw the credit freeze. On the back of the announced TSLF plan and 75bp rate cut, policy makers offered their first $50 billion liquidity injection into the market and expanded the range of acceptable collateral for the auctions. In addition to AAA rated commercial mortgages, the Fed has said it will now accept bundled mortgage debt (what many consider to be the bane of the credit market). However, while risk premium in insuring corporate debt has eased on these efforts; demand for short-term, comparatively risk free paper has yet to respond significantly. 

The announcement that the Fed would accept a broader range of assets as collateral for its regular auctions played a significant role in restoring confidence in firms that were holding considerable sums of debt that is still difficult to price in the market. In response to this, the cost of default swaps plunged nearly 20%. At the same time, the market realized this modification wouldn’t secure all corporate debt, leaving risk premiums to grow even higher.

Demand for short-term paper cooled somewhat last week in response to the Fed’s assurances on liquidity, though rates on money market instruments have yet to rebound. The risk-free T-bill rate slipped to its lowest level since 1954 through last Friday, while the three-month Libor slipped to a new three-year low. The Fed will no doubt monitor rates on these instruments to gauge the effectiveness of their efforts in the weeks ahead. 

Confidence in equities surged through the past week as quarterly numbers from the financial sector calmed fears of an impending implosion for the vital industry. Since last Wednesday, the benchmark Dow index rose nearly 4.7 percent back above 12,500. It was clear that this rebound in demand came less from economic data securing a more rosy outlook for growth, and more from the belief that lending would thaw and encourage activity at the business-to-business level. This was in large part owing to the cumulative efforts of the Fed to revive liquidity over the past few weeks. Larger TSLF auctions, a 75bp cut to the Fed Funds and discount rates and a broader range of acceptable collateral for loans at the discount window offered a disproportionate advantage to the market’s sectors which explains the uneven rebound from different groups. Sustaining this strength though will likely depend more on more on data.

Relief for the battered credit market was a clear boon for general risk appetite; but its true support for valuing the various industries came more on a sector to sector basis. The primary benefactor of well function credit market was clearly the Financial group whose life blood is lending and borrowing. In fact, the sector marked its biggest rally since 2001 last week. Having a reduced dependency on the credit markets, the Dow real estate and retail indexes would rally nearly 11 percent last week. Overall, volatility across the market fell 6.5 percent.

Not only do investment houses and commercial banks have a heavy reliance on the credit markets through basic borrowing and lending, but many of the largest companies by market cap hold large amounts of debt whose value depends largely on the market’s ability to offer a price. Therefore, the surge from the financial sector shouldn’t come as a big surprise. What’s more, earnings numbers last week further helped to calm concerns that more firms were on the brink of collapse. Lehman Brothers’ shrugged off Bear Stearns’ comparisons with its own numbers.

Though the Fed’s dual efforts to settle the financial markets and avert a recession have paid off for the corporate sector, consumers have yet to feel the full effect. On Tuesday, the Conference Board released its consumer confidence gauge for the month of March. The indicator’s headline revealed an unexpectedly sharp drop to a five-year low. However, the truly concerning element of this report was a drop in the outlook component to its lowest level since 1974. If such dour forecasts are translated into spending, the outlook for growth is in jeopardy. Further stoking concerns of an impending recession, the Leading Indicators composite from the same statistics group reported a fifth consecutive month, negative reading. As this is a gauge of growth in the coming three to six months, the probability of recession is looking better than even.

In a week of disappointing data, the housing market was the bright spot on the economic map. The good news begin last week, when government-supported lenders Fannie Mae and Freddie Mac agreed to expand their loan purchases. Keeping the ball rolling, existing home sales through the month of February unexpectedly rose 2.9 percent. And, though new home sales slipped through the same period, the basic components are in place for a long-term bottom for the housing market: reduced construction, lower prices and a rebound in sales. In fact, the more timely mortgage applications report from last week surged 48.1 percent, the most since January 2001.

There is clear disparity in the performance of the prices for those stocks considered close to consumers. Lenders and home-improvement companies are still struggling under the weight of the housing market recession. What’s more, steadily fading consumer confidence has clearly fed through to discretionary spending, leaving higher end retail and service chains with reduced sales. On the other hand, discount stores have opened their arms wide to a more frugal consumer, and their stocks have been especially sensitive to the broad equity market’s upswings. While many stocks are just coming off fresh multi-year lows, Walmart shares have just pushed to new two-year highs.