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Subprime or Fed Funds Futures? Pick Your Source of Volatility

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Stocks are flat to slightly up as concerns about the fallout from subprime loans overshadow today's corporate deals. Two market pros told CNBC's "Power Lunch" that investors need to be on their guard in light of recent volatility.

"We have the polarized forces; you have deals on the one hand, which are positive, and subprime on the negative, much like this whole year with the tug of war between the optimists and pessimists," said Jeff Knight, CIO of global asset allocation at Putnam Investments.

Knight noted that Putnam will be watching the situation in the troubled subprime lending industry very carefully. "So far it's a cash flow situation with borrowers unable to pay back loans. What's going to be important is how it plays out for the balance sheets," he said.

Bill Rhodes, chief investment strategist at Rhodes Analytics, said he is keeping an eye on what investors are predicting for the Federal Reserve.

"The volatility right now is in the Fed funds futures market," said Rhodes. "About a week ago, as the economic numbers began to deteriorate, the Fed funds futures market decided it wasn't going to be six months until a rate cut; it was only going to be two months. By Friday afternoon, they decided it was going to be four."

"That's important because the market uses that, along with the three-month Treasury bill, to discount stock prices," Rhodes said. "And as that becomes volatile, it means that the market doesn't know what's going on with the business cycle and earnings projections going forward become more uncertain."

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