The Dow got a pop of relief after the Fed announced plans to hold rates steady and said inflation should moderate.
Stocks had already been higher -- in fact, unusually high for a Fed meeting day -- after a better-than-expected service-sector report and oil's drop below $120 a barrel.
The Dow Jones Industrial Average jumped about 60 more points, adding on to its more than 200-point gain. At one point, it was up as much as 300 points. The S&P 500 and Nasdaq also posted solid gains.
The Fed's Open Market Committee held its target for interest rates at 2 percent, with one of the six members, Dallas Fed President Richard Fisher, dissenting, calling for a rate increase. In their statement, policy makers said they expect inflation to moderate this year and next but hedged their bet, saying "the inflation outlook remains highly uncertain."
The Fed did away with its June concern about an increase in upside risks to inflation; ditto for its assertion that downside risks to growth have diminished. Instead, it said: "Although downside risks to growth remain, the upside risks to inflation are also of significant concern to the committee." (Read the Fed's statement.)
"Overall, then, a tad less aggressive and the single dissent is a relief," Ian Shepherdson, chief U.S. economist at High Frequency Economics, wrote in a note to clients. "They are on hold till year-end, then ease," he said.
Bill Gross, manager of the $130 billion Pimco Total Return Fund, agreed.
"These concerns [among analysts] about the Fed raising interest rates are almost comical," Gross said on CNBC after the Fed decision. "We're in a recession and when has the Fed ever raised interest rates during a recession?" Gross asked.
The Institute for Supply Management reported its gauge of service-sector activity rose more than expected to 49.5in July from 48.2 in June but remained below 50, indicating a second straight month of contraction. New orders declined but a measure of employment rose. And, on a day when the market is keenly focused on inflation, there was some relief as an index of prices paid fell by more than four points.
The service sector is a closely-watched gauge of the economy as it represents 80 percent of economic activity. This modest surprise was welcomed by the market.
"The more numbers we get, the more we see that the economy remains weak but not on its death bed," Joel Naroff, chief economist at Naroff Economic Advisors, wrote in a note to clients.
Crude oil dropped more than $2 a barrel to settle at $11.9.17 a barrel, prompting speculation about how low it will go. The next stop will be $100 a barrel, according to technical analyst Nick Batsford from Hobart Capital.
The recent drop in commodities is giving stocks room to run by relieving inflationary pressure and taking some heat off the Fed, which wants to avoid slowing economic growth by pushing rates higher, Dodge Dorland, chief investment strategist at Landor Capital Management, told "Worldwide Exchange."
"Oil at the low yesterday in fact touched the 20 percent correction level," Kevin Ferry, of Cronus Futures Management, said on CNBC. "If that was a stock, people would be talking about a potential bear market in oil, so we'll see how it responds today."
Boeing was among the biggest gainers on the Dow as the drop in oil prices boosted the energy-dependent aerospace giant.
The service report-oil combo created a little more action in the market than usual on a Fed meeting day.
In earnings, Dow component Procter & Gamble beat expectations as price increases and cost controls helped offset soaring prices for oil and other commodities. But the company, which makes everything from Pampers diapers to Olay skin-care products, warned that rising commodity costs will crunch margins in the new fiscal year, which began July 1.
In the financial sector, Lehman Brothers ismulling a sale of its investment-management division, which includes its Neuberger & Berman asset management unit as well as stakes in hedge funds and private equity funds, CNBC has learned.
And Merrill Lynch CEO John Thain told CNBC that thebrokerage firm is "very well capitalized" but didn't rule out further writedowns if the value of risky assets continues to decline.
Goldman Sachs shares slipped after Merrill cut its 2008 earnings estimates and slashed its price target on the stock to $205, citing negative trends in some of the firm's strongest businesses.
Cablevision jumped after the company announced that it is considering a spinoff of one or more divisions and other options to boost the company's struggling stock.
TUESDAY: Fed meeting, decision on rates; Earnings from Cisco and News Corp.
WEDNESDAY: Mortgage applications; crude inventories; Earnings from Freddie Mac, Time Warner, Sprint Nextel and AIG
THURSDAY: Jobless claims; existing-home sales; consumer credit; Earnings from Barr Pharma, Toyota
FRIDAY: Productivity; wholesale trade; Earnings from Berkshire Hathaway
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