The stock market and the Federal Reserve have been acting like partners in a ”failing marriage” following Tuesday’s 25-basis-point interest rate cut, said James Grant, founder and editor of Grant’s Interest Rate Observer.

He was referring to the stock market’s sharp drop after the Fed’s rate action on Tuesday. Many on Wall Street thought the move was not aggressive enough to help stave off a recession.

“The Fed and the markets have had a kind of duet,” said Grant, speaking Wednesday at the Reuters Investment Outlook 2008 Summit in New York.
 

Jim O’Shaughnessy, chairman and chief executive of O’Shaughnessy Asset Management in Stamford, Connecticut, said the sell-off in U.S. financial stocks may have run its course, and that the sector is “looking attractive again.”

The market has already seen large write-downs from financial companies, he said.

Also, he said investors always need to pay attention to valuation when picking stocks. “Valuation matters. It matters in any market environment,” he said. 

Bill Gross, chief investment officer for PIMCO, said the recent push higher in the stock market likely reflects a decline in real interest rates, and that forecasts for double-digit earnings growth next year are not realistic.

“I do think stocks are in la-la land when they start to focus on renewed double-digit profit gains in 2008. That’s just not going to happen,” said Gross, who was speaking via teleconference at Reuters Investment Outlook 2008 Summit in New York. PIMCO is the world’s largest bond fund.

Profit gains for Standard & Poor’s 500 companies have fallen sharply in recent quarter after more than four years of double-digit increases. Large write-downs in the financial sector have been the biggest negative recently on earnings results.

Margaret Patel, senior portfolio manager and a managing director at Evergreen Investments in Boston, said investors can expect “a good house-cleaning” when financial institutions release fourth-quarter earnings, as the housing and subprime crisis continues to take its toll on the sector.

  ”Everyone is going to throw in the kitchen sink in the fourth quarter,” said Patel, who spoke Tuesday at the Reuters Investment Outlook 2008 Summit in New York.

She said in the first and second quarters, the sector “might still have some additional revelations.” Patel said financial companies will need to find new sources of growth as they put the subprime crisis behind them. “I don’t think we’ll see a huge new wave of mortgage financing, consumer borrowing or business borrowing through the banks,” she said.
 

Deborah Cunningham, who manages Federated Investors’ U.S. and euro money market funds, said markets will have to wait until some six to eight weeks into the new year before European banks release their latest earnings, which could reveal some new fallout from exposure to the global credit crunch. Unlike the quarterly reporting schedule in the United States,  many European banks report every six months.

That could help keep the Libor, or the London interbank offered rate, the main short-term borrowing rate in Europe, high into the first quarter, said Cunningham, who was speaking at Reuters Investment Outlook 2008 Summit in New York on Monday. A higher rate reflects a tendency toward risk aversion.

“Until there is a lot of year end of reporting, that rate (the spread of Libor over the U.S. fed funds target rate) will stay wide,” Cunningham said.

Tom Sowanick, chief investment officer at Clearbrook Financial LLC in Princeton, New Jersey, said he interpreted recent remarks by top Federal Reserve officials to mean the central bank had elevated the importance of the equities market in its decision-making during the current period of “crisis management” since the major credit crunch that hit in August.

Sowanick, who was speaking Monday at the Reuters Investment Outlook 2008 Summit in New York, also said the equity market will pay more attention to what the Fed says in its statement on Tuesday, rather than what it does on interest rates.

“If they say things are deteriorating further and they cut 50 basis points, I think the equity market would fall, led by financials, and the Treasury market would become even giddier.”
 

Mary Miller, director of fixed income at T. Rowe Price Group Inc., said the worst of the housing crisis is not over and will likely last until the end of 2008.

“It will probably be over toward the end of 2008. That’s when we’ll get some better balance between supply and demand,” said Miller, who was speaking Monday at Reuters Investment Outlook 2008 Summit in New York.

She said the market still has inventory overhang to work through.

Paul Hickey, co-founder of Bespoke Investment Group LLC, said he sees a buying opportunity in stocks despite rising bond yields. “We wouldn’t say this is a really great opportunity for bonds here,” he said at the Reuters Investment Outlook Summit.

Wall Street strategist Barry Ritholtz said the U.S. economy is in a gradual slowdown, and that jobs recovery is the worst since World War II. “I called this the slow-motion slowdown,” Ritholtz, chief market strategist at Ritholtz Research & Analytics, told the Reuters Investment Outlook 2007 summit. He said chief executives have been reluctant to make investments and have limited their hiring and purchasing.

BNP Paribas Senior Bond Strategist Richard Gilhooly said the Federal Reserve could cut interest rates in the near term if the housing market remains soft. “We think, effectively, over the next three to six months the Fed will have a window to lower rates if they need to,” he told the Reuters Investment Outlook Summit in New York. The U.S. central bank has kept its benchmark overnight lending rate at 5.25 percent since June 2006. Financial markets currently show little chance of a rate cut between now and year-end. As recently as late April, rate futures priced in between one and two quarter-point Fed eases.