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Global dynamics feed uncertainty

A specialist works at his post on the floor of the New York Stock Exchange on Tuesday. (Associated Press)
A specialist works at his post on the floor of the New York Stock Exchange on Tuesday. (Associated Press)

WASHINGTON – U.S. stocks soared Tuesday, ending a frenetic day in which they plunged, then surged. The wild swings occurred after the Federal Reserve said it expects to keep short-term rates at record lows for two more years because it thinks the economy will stay weak for that long. The Dow Jones industrial average traded in a huge 624-point range, a day after plummeting 634.76 points.

Disturbing signs about the global financial markets and economy remain. European markets swooned Tuesday before ending mostly higher. Leaders there are trying to contain a widening debt crisis. Gold reached a record high for the second straight day. And the yield on the 10-year Treasury note brushed a historic low, signaling that traders remain drawn to investments seen as ultra-safe.

Here are some questions and answers about this week’s market turbulence:

Q.Stocks rocked by the market close on Tuesday. Does that mean they’re back on track?

A.Not necessarily. The Dow is still down nearly 12 percent since late July. And economists are revising down their projections for economic growth in 2011 and 2012. They worry the economy will remain sluggish after growing at a meager annual rate of just 0.8 percent in the first half of the year. Employers aren’t hiring enough to significantly reduce the unemployment rate, now at 9.1 percent. If the economy were to slide toward another recession, consumer demand would shrink further. And stock prices could slide again.

Q.If things are so bleak, why did stocks soar by day’s end Tuesday?

A.Rebounds are common after stock market plunges. Investors seek out bargains – shares whose prices fall below what a company’s financial health justifies. Perhaps more significant was the Fed’s indication that super-low rates would stay in place for two more years. Ever-lower Treasury yields could cause many investors to shift money into stocks, which deliver higher returns over time. The dividend yield on the Standard and Poor’s 500 stock index now exceeds the yield on the 10-year Treasury. Investors may also have concluded that companies will be able to boost profits even if the economy is growing weakly.

Q.Is there anything investors can be sure of?

A.Volatility. The global economy is changing rapidly. Expectations shift daily, for example, about growth prospects for both emerging and developed economies. Short-term events are driving wild rallies and sell-offs. S&P downgraded long-term U.S. debt late last week and has threatened another downgrade. Other credit rating agencies might follow. European stock markets bounced around Tuesday as investors remained anxious about a possible default by Italy or Spain. As traders react to such political and economic events, stocks will likely continue to gyrate.

Q.How are traders responding to the volatility?

A.More of them are using financial tools called options to protect themselves against market swings. And people have been favoring safe investments. The yield on the 10-year Treasury note briefly hit a record low of 2.03 percent Tuesday. Gold hit a record high Monday and fell only slightly late Tuesday as stocks shot up.

Q.Could all this volatility scare investors and consumers into pulling back, potentially causing another recession?

A.Most economists think another recession would more likely be triggered by economic burdens: high unemployment, stagnant wage growth, depressed housing and a decline in global demand. But many warn that the recent market swings could compound fears about Europe and the U.S. economy. People might seek to regain their lost wealth by reducing spending. Consumers account for 70 percent of economic activity, so any such cutbacks would further slow economic growth.

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