Why the Markets Don't Always Seem Logical

The highest ranking US official ever was indicted yesterday.

You'd think that was bad news, coming on the heels of the Harriet Miers withdrawal, the death of the 2,000th soldier in Iraq, and the avian flu pandemic that's about to break.

The markets didn't.

NEW YORK - Stocks rallied sharply Friday, with the Dow gaining 172 points on better-than-expected gross domestic product growth last quarter despite the disruptions caused by hurricanes Katrina and Rita. The major indexes finished an erratic week higher.

The upswing in economic activity for the July-September quarter soothed a market anxious for signs of the economy's health amid fears of a downturn. The GDP figure also overshadowed a drop in consumer confidence and a weak forecast from oil company Chevron Corp.

"It basically drove home the point that the economy was healthy before the hurricanes and indeed may have remained healthy afterward as well," said Doug Porter, a senior economist at BMO Nesbitt Burns, who noted gains in spending and business investment among increases in nearly every GDP component in the Commerce Department's report.

So why?

After all, Fitzgerald has stated he'd continue the investigation, likely Rove will continue to be on the hot seat, negating any real influence he can have in the White House, and so you'd figure the markets might be wary.

Well, the weird thing about markets is, they tend to factor all this in ahead of time.

Smart money yesterday at 1 PM (of which I count myself) bet the market to leap skyward, and sure enough, a 12:59, the markets were languishing, up only a point or so on the Dow. When the indictments were announced, all the uncerainty about the administration was removed (for the immediate term) and investors (the dumb ones) poured back into the market.

Why? Well, look at the GDP numbers! The economy grew by 3.8% (subject to later adjustment, and don't think it won't be) according to the government, exceeding the government's own prediction of 3.6%.

Gee....really bad news week and for some reason, the government gets their economic indicator prediction, um, wrong. What a surprise!

This is why the smart money waited until the Dow ticked over 150 points yesterday (the real gamblers stayed in until it was up in the 170s), and settled their derivatives out. We know the economy didn't grow by 3.8%. It probably didn't even grow by 3.6%.

But the suckers will believe it.

The other funny bit about this week's market moves is the appointment of Ben Bernanke as Fed chairman. The markets hated Alan Greenspan, because he was keeping a tight rein on inflation by keeping a tight rein on interest rates. So what's the first thing the Fed's going to do next week in light of this GDP data?

Raise interest rates another quarter point, as they should. Even at 3.2% (which is my estimate), the 3rd Quarter GDP is still highly inflationary, and the full effects of the spike in oil and gas prices won't be felt until heating season.

People can avoid driving. They can't avoid freezing.