Stocks Rise after Fed Keeps Rates Steady

But Greenspan & Co. noted risks of weakness. The Nasdaq led the way higher on hopes for bullish earnings from Cisco Systems

Stocks finished higher Tuesday after the Federal Reserve left interest rates unchanged, and warned that it sees some risk of economic weakness. Tech stocks were boosted on hopes for a strong earnings report from Cisco Systems' (CSCO ) after the market close.

The Dow Jones industrial average rose 56.7 points, or 0.66%, to 8,588.36. The broader Standard & Poor's 500-stock index was up 7.84 points, or 0.85%, to 934.39. Meanwhile, the tech-laden Nasdaq composite index gained 19.67 points, or 1.31%, to 1,523.71.

With no major economic reports released Tuesday, market players focused on the Fed meeting. The Federal Open Market Committee unanimously decided to keep its target for the federal funds rate unchanged at 1.25%. Most economists expected no change in interest rates. In its closely-watched post-meeting statement, the Fed said it believes "an accommodative stance of monetary policy and ongoing growth in productivity, should foster an improving economic climate over time." Citing the risk of deflation, though, the FOMC said: "the balance of risks to achieving its goals is weighted toward weakness over the foreseeable future."

The Fed's warning about economic weakness initially caused a brief selloff in the major indexes. Then they clawed higher and settled back down as market players poured over the Fed's assessment of the economy. "The biggest takeaway is the Fed did exactly what we expected," says Art Hogan, chief market strategist at Jefferies & Co.

While the Fed suggested the economy is not so bad -- given the fall in oil prices, improvement in consumer confidence, and stronger equity and debt markets -- it also "opened the door for a rate cut in June," Hogan says. The Fed's statement also indicates that it's concerned the economy could fall into a "double-dip" recession, he says. The Fed's mention about deflation -- characterized by the Fed as "an unwelcome substantial fall in inflation" -- is another way of saying it worries that there is not enough demand chasing goods and services, leaving companies with no pricing power.

The markets also rallied Tuesday on hopes that Cisco Systems' (CSCO ) would report positive fiscal third-quarter results. After the market close, the networking gear maker said it earned 15 cents per share (pro forma), vs. 11 cents a year ago and a penny higher than analysts' estimate. Sales were $4.6 billion, down 4.2% from $4.8 billion in the year ago quarter.

Hogan says tech stocks have become "priced to perfection" on hopes that Cisco's report would beat expectations and that its CEO John Chambers would have a positive outlook. The next tech report to watch is from Electronic Data Systems (EDS ) on Wednesday.

Elsewhere in tech on Tuesday, McData (MCDTA ) was higher after the data storage provider raised its first-quarter outlook.

Satellite broadcaster EchoStar Communications (DISH ) reported strong results, with first-quarter EPS of 12 cents (includes accounting charge), vs. a loss of 20 cents per share a year ago, on a 23% revenue rise.

Gillette (G ) shares rallied after the consumer products maker beat first-quarter earnings estimates thanks to strong sales of razors and cost cuts.

In other news, AOL Time Warner (AOL ) shares were lower on news that Ted Turner sold 60 million shares of the media giant, reducing his stake by about half. Turner is stepping down as vice chairman at AOL's annual meeting next week.

Treasury Market

The Fed's addition of a new twist to its policy statement breathed new life into a lagging Treasury market Tuesday, says MMS International. The FOMC indicated risks were tilted toward weakness, but it was not risks to sustainable growth that the Fed noted. Rather, the Fed said risk of a "substantial fall in inflation" outweighed (albeit minor) the risk of a pick-up in inflation. It didn't really matter to the bond market, however, as traders read headlines of "weakness" and ran with it, MMS says.

Shorter-dated instruments paced the gains on speculation the shift was the precursor to an easing of rates. That reversed earlier losses following a tepid reintroduction of the 3-year note. Fed funds futures gained to reflect nearly 80% chance of a rate cut by the summer, after only about 60% chance earlier.

Traders also kept an eye on the U.S. dollar, which has fallen to 4-year lows against the euro. The weakness in the greenback indicates foreign investor qualms about the anticipated economic recovery and desire to diversify, notes MMS.

World Markets

European markets were higher Tuesday. London's FTSE 100 index rose 53.8 points, or 1.36%, to 4,006.4. In France, the CAC 40 index gained 61.34 points, or 2%, to 3,057.76.

In Germany, the DAX index was up 34 points, or 1.1%, to 3,047. The market was restrained a bit by a BDA Federation report saying German unemployment rose to the highest level since 1998 in April. Some investors are hopeful that the European Central Bank will ease credit at Thursday's policy meeting.

Asian markets finished mixed. In Japan, the Nikkei index rose 176.37 points, or 2.23%, to 8,083.56. Sentiment was lifted by expectation for new stock supporting measures to be officially announced by the country's ruling parties later on Tuesday. Hong Kong's benchmark Hang Seng index fell 27.27 points, or 0.31%, to 8,889.22.

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