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Markets fall on stimulus remarks

Blue chip stocks have fallen 560 points over two days. One observer said investors are worried the economy may not be as strong as the Federal Reserve thinks.

Richard Drew/Associated Press

Blue chip stocks have fallen 560 points over two days. One observer said investors are worried the economy may not be as strong as the Federal Reserve thinks.

The signs are all pointing to an improving economy as more people find jobs, home sales surge in some areas, and confidence rises. Yet investors are selling stocks and bonds, seemingly fixated on just one thing: How soon the Federal Reserve might stop pumping money into the market.

Stocks have fallen sharply for two straight days, pulling the Dow Jones industrial average down 560 points, or nearly 4 percent, to 14,758.32. The sell-off started when Federal Reserve chairman Ben Bernanke suggested Wednesday that a healthier economy would prompt the central bank to start winding down its bond-buying program later this year.

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The stock market’s nervous initial reaction only gained momentum Thursday, when the Dow index lost 353 points. It was the market’s worst day since November 2011, as investors worried that the economic recovery could be thrown off course if the central bank cuts back.

“The worry is that the underlying economy isn’t as strong as the Fed thinks,’’ said Paul Edelstein, director of financial economics at IHS Global Insight in Lexington. “Markets aren’t convinced that the economy could stand on its own.”

Some of the plunge is purely driven by spooked investors. Stocks have enjoyed a huge rally, more than doubling in value from their lows of 2009. Optimists think this is a temporary slide, while pessimists fret that without the Fed’s help, a sputtering economy will be laid bare.

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Omar Aguilar, chief investment officer for equities at Charles Schwab Investment Management, takes the more positive view.

While Aguilar has been predicting a market decline in recent months, he is convinced that improvements in housing, manufacturing, unemployment, and corporate earnings are real and indicate better times ahead.

“I do believe the economy is in better shape,’’ Aguilar said. But this period of smooth sailing and low volatility is probably over, he noted.

The Fed, which has been buying up $85 billion of bonds each month to stimulate the economy, said it will slow down the program as unemployment falls from its current level of 7.6 percent to a target of about 7 percent. Bernanke said he believes that target will be reached next year, at which point the bond purchases would stop.

Brendan McDermid/Reuters

One investment officer who said he predicted the market decline does see better times ahead.

Therein lies the strange paradox markets could face — just as the economy truly gets better, and more people earn paychecks, the removal of Fed stimulus could take some of the sparkle out of the good news. In anticipation, bond investors are already running for cover. As a result, bond prices are falling and interest rates are rising.

The yield on the 10-year Treasury note rose to 2.419 percent Thursday, an increase of 0.11 percentage points and the highest level since mid-2011. Investors have been fearing a turn to higher interest rates after a long period of historic lows. Not only will that ultimately translate into higher borrowing costs for homeowners and businesses, but bonds that investors already own will lose value.

In fact, recent volatility across global financial markets really started in fixed-income sectors, said Lisa Emsbo-Mattingly, director of global asset allocation research at Fidelity Investments in Boston. Bond investors were the first to get nervous last month when Bernanke started signalling an end to the stimulus money.

But after conventional bond investors reacted, they were followed by owners of riskier, higher yielding bonds and, then, stockholders. “There’s a resonance of volatility through the whole market right now,’’ she said. “Hopefully it’s a near-term problem and it doesn’t turn into a macro problem.”

Generally, Emsbo-Mattingly thinks the US economy is slowly getting better, although “it’s not going gangbusters.” Along with others, she is particularly concerned about trouble in China and emerging markets, economies the United States is depending on to help drive growth at home.

“China is looking riskier and riskier,’’ Emsbo-Mattingly said, citing a report Wednesday of a cash crunch there and higher lending rates.

For wary American stock investors, she said, “That just put more accelerant into the sell-off.”

Beth Healy can be reached at bhealy@globe.com.
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