Standard & Poor’s announced two changes to its popular S&P 500 Index, used by many investors to track the performance of the U.S. markets.

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Altria Group Inc. (MO) is divesting its tobacco subsidiary and the resulting firm, Philip Morris International Inc., will replace electronics retailer Circuit City Stores Inc. (CC) in the index after the close of trading on March 28. Altria Group will remain in the index.

HCP Inc. (HCP) will replace Commerce Bancorp Inc. (CBH), which is being purchased by Canada-based Toronto-Dominion Bank (TD), after the close of trading on March 31. HCP is a real estate investment trust (REIT) that focuses on investing in healthcare industry related properties.

The S&P 500 is the definitive measurement for the large-cap U.S. market. It is a market valued weighted index, meaning the representative companies have a weighted value in the index with larger companies having a bigger impact on index’s movement.

A team of economists and analysts make up the S&P 500 Index Committee, which selects the constituent companies. Decisions for inclusion are based on a variety of criteria including market capitalization, sector, and liquidity.

Shares of stocks added to the S&P 500 Index tend to get a price boost due to the popularity of index investing. Mutual funds and exchange-traded funds (ETFs) that track the S&P 500 Index will need to purchase shares of the new additions in order to continue to match their chosen benchmark.

For the same reason, shares of companies dropped from the index tend to suffer a subsequent price decline as index funds sell those positions.

Such index-based funds are popular because they often have low expense ratios and allow an investor to mirror the S&P 500 index without the hassle and expense associated with investing in 500 individual stocks.

One of the oldest and most popular S&P 500 Index funds is the Vanguard 500 Index Fund (VFINX).

News and Related Story Links:

• MarketWatch:
  S&P reports changes to 500-stock, other indexes

• Reuters:
  S&P 500 adds Philip Morris, HCP; Circuit City out

• Investopedia:
  Standard & Poor’s 500 Index (S&P 500)

A bullish remark from Standard & Poor’s yesterday (Thursday) led to a recovery in the markets that resulted in the three major U.S. indices all posting gains for the day.

At the New York close, the blue-chip Dow Jones Industrial Average Index posted a gain of 35.50 points (0.29%), to trade at 12,145.74. The tech-laden Nasdaq Composite Index increased 19.74 points (0.88%), to reach 2,263.61. And the broader Standard & Poor’s 500 Index rose 6.71 points (0.51%), to settle at 1,315.48.

"That slight piece of positive news from Standard & Poor’s helped the market gather footing," Eric Green, who helps manage $5 billion at Penn Capital Management in Cherry Hill, New Jersey, told Bloomberg News. "The bears couldn’t press it anymore."

The report from Standard & Poor’s estimated that subprime related write-downs would reach no higher than $285 billion, only a slight increase over the firm’s January estimate of $265 billion.

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Credit analyst Scott Bugie said in the report that members of the financial sector "appear to have already disclosed the majority of valuation write-downs." Bugie also said that the "subprime saga" caused by "overlending during a credit boom" is probably half over with $150 billion in write-downs already disclosed, Forbes reported.

Earlier in the day, concerns that the Carlyle Group would not be able to rescue its mortgage-bond fund, Carlyle Capital Corp Ltd. (CCC), stoked new fears about the credit crisis and sent indices heading lower.

At noon ET, the Dow had posted a loss of 59.83 points (-0.49%), to trade at 12,050.41. The Nasdaq dropped 12.55 points (-0.56%), to reach 2,231.32. And the S&P 500 had lost 6.52 points (-0.50%), to settle at 1,302.25.

The CCC fund has been unable to meet $400 million in margin calls and has an estimated $16.6 billion in debt that is currently in default with all remaining debt to go into default "soon," according to a statement from the fund. Shares of the fund plunged over 85%.

"If Carlyle’s lenders want their money right away, they’ll liquidate the fund," Hank Calenti, a London-based analyst at RBC Capital Markets, told Bloomberg News. "That will put pressure on already stressed credit markets."

In overseas markets, Japan’s Nikkei Index had a 427.69-point decline to close at 12,433.44. Hong Kong’s blue-chip Hang Seng Index plunged almost 5% with a decrease of 1,121.12 points to close at 22,301.64.

"There are a couple of factors: there was no follow-through buying in the U.S. after the initial euphoria with the Fed move and the old concerns have returned – recession, subprime and all the rest," Andrew Clarke, a trader at Societe Generale, told Reuters, speaking of the decline in the blue-chip Hong Kong index. "There’s also concern that China may tighten with inflation going through the roof."

Mainland inflation is at 12-year highs and the government may be forced to take additional tightening measures.

In Europe, the Paris-based CAC40, London’s FTSE 100, Madrid’s IBEX 35 and the Frankfurt-based DAX all posted declines.

News and Related Story Links:

• Bloomberg:
  Carlyle Capital Nears Collapse as Rescue Talks Fail

• Bloomberg:
  U.S. Stocks Gain After S&P Predicts End to Subprime Writedowns

• Forbes:
  S&P Sights End Of Subprime Nightmare

• MarketWatch:
  Stocks off early lows as S&P says write-downs nearly over

• Reuters:
  HK shrs sink on tightening fears; China Railway up
       

• Reuters:
  Stock Market News & Quotes

Before the dust settles from the imploding credit market, financial firms in the S&P 500 will have absorbed between $125 billion and $175 billion total in mortgage and credit-related write-downs, an analyst at The Bear Stearns Cos. Inc. (BSC) said.

That means most of the credit carnage is over, as about $115 billion is already in the books, says Jonathan Golub, Bear Stearns’ chief investment strategist. Most of that figure came from mortgage-related problems.

The remaining credit-related writedowns of $25 billion to $55 billion Golub foresees will come from other sectors such as student loans, credit cards and auto-loan portfolios.

"The majority of the writedowns are behind us," Golub told CNNMoney. "The banks have taken the majority of the hits to their earnings and now we can move forward."

Merrill Lynch & Co. (MER) and Citigroup Inc. (C) have posted the highest write-down totals in the past two quarters, $22.5 billion and $21.6 billion, respectively, Golub wrote in a research report. His employer, Bear Stearns, took $2.6 billion in write-downs in the second half of 2007.

And when all fourth-quarter figures are added up, Golub predicts expected earnings in the sector to be down 105% compared to the previous year’s quarter, as the fincial firms in the index have already lost $593 billion in market value since the end of the third quarter.

While $175 billion is an extraordinarily high figure, more deep losses and write-downs are expected from European banks in the weeks ahead.

That will make for some more doom-and-gloom headlines, but U.S. investors shouldn’t panic because the waves hitting European banks now have already come and gone in the United States.

On top of that, Golub believes that European analysts "have been slower to downwardly revise their earnings estimates."

Overall, stock prices of S&P 500 financials have fallen 8.4% year-to-date.

News and Related Story Links:

• CNNMoney:
  Credit writedowns may total $175B – analyst

• Money Morning:
  Citigroup Courts Foreign Investment As Another Round of Writedowns Looms

I wrote to you recently about an unusual series of S&P 500 Index (SPY) options trades worth $900 million or more – give or take a few zeros.

In fact, as it turned out, we were one of the first – if not the actual first – mainstream news organizations to write about these trades, which were being talked about at length in the global community of professional traders that I’m part of [More on our "scoop" momentarily].

Not only were the trades unusually large, but their placement so close to the September expiration and the fact that they were so deep in the money made them a complete enigma. Add in the fact that none of the parties to the trade were talking (a puzzler, too, as the trading community typically loves to talk) and you’ll understand why this story quickly rivaled the alleged 1947 UFO crash in Roswell as a topic of interest and a focus of conspiracy theorizing.

According to my research, anonymous parties agreed to buy and sell 120,000 September (SPY) call options using deep-in the-money strikes ranging from 60 to 95. Now, if you’re not options savvy, don’t worry. SPY – also referred to as a “Spider” in trader parlance – is an exchange-traded fund (ETF) that mimics the performance of the stock market’s closely watched Standard & Poor’s 500 Index (INX). These strike prices equate to a SPY trading between 600 and 950, or roughly 35.81% to 59.46% below where the security was trading when I broke the news of the trade back in August.

As a longtime professional trader, my own take at the time was significantly less ominous than some of those posted on the message boards, where some had dubbed these as the ‘Doomsday Plays’ or the ‘Bin Laden trades.’ Others questioned how other professional traders and I could even consider trading this “trade.” And when other mainstream media organizations followed our lead and began reporting the story, they were unevenly divided between two camps: Most were in the first group, theorizing that there had to be a logical explanation for the trades, while in the second – the minority – reporters theorize there must be a more-sinister motivation.

As it turns out, my initial impression was much closer to the truth than even I realized. As a result, I’m relaxed and in an even-less conspiratorial mood now.

Let me explain ;

What nobody could figure out about this trade was the “why” and, in fact, they still can’t nail it down with any degree of certainty because there are just too many possibilities.

One scenario, however, is standing out as being more reasonable and more likely than all the others. And we have a bit of insight to base some of our more-rational theorizing on, and that’s only because someone finally talked. That “someone” was Dan Perper, a partner at options-market-maker Peak6.

Perper was widely quoted recently as saying that the trades are part of a “box-spread trade.” I wasn’t personally able to reach him over the past week, so I cannot confirm this firsthand. But he’s widely respected – as is Peak6 – and the comments were broadly disseminated, so I have no reason to doubt what’s been reported.

As for the “box-spread trade,” and what it is supposed to accomplish, let me just say that it is a highly specialized transaction that professional traders or sophisticated institutional investors use on occasion to “box” in the market and guarantee profits, risk or, as may be the case with this trade, financing.

Without boring you with the details, here’s what you need to know about how this type of trade works. Basically, the counterparties, in this case a buyer and a seller, agree to a trade at a price that essentially splits the difference between current interest rates or prices. The price the trade takes place at is really is a moot point.

What’s important to understand is that the seller benefits because they essentially get to borrow the money from the buyer at a slight discount to prevailing market rates, while the buyer is able to keep his money moving in what is essentially a cut-rate loan at a time when he probably can’t lend it to others at all and risks it standing still – the kiss of death for a financial firm that depends on its liquidity for daily operations.

So what does this tell us in light of the fact that somebody placed bets now covering over 132,000 September options, up from the initial 100,000 on August 16th?

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In a nutshell, if this monster trade actually is a box trade, it suggests to me that an unknown major player is hurting for cash and couldn’t obtain it any other way.

It also suggests, as I have said for the past few weeks, that the subprime slime is not yet out of the global financial system.

The only question that truly remains in my mind – again, assuming that this is a box trade – is who’s hurting so much that they needed more than $900 million badly enough and immediately enough to utilize such a trade structure. And, in a related question – so there are two actually – is who couldn’t get traditional financing even with the Fed offering liquidity as a last resort?

I bet we’ll find out in the next few weeks when the several of the bigger financial houses report earnings and a number of hedge funds make decisions on redemption requests.

Oh, and by the way, even if this trade does wind up being a box, I still find it too coincidental that it is slated to wind up this month near the anniversary of 9/11.

I guess there is a little conspiracy theorist in me after all;

[P.S. As I mentioned earlier, Money Morning scooped every mainstream news source on this “Mystery Trade” story. When you look at the related links, you’ll see that our original report appeared first thing in the morning on Wed., Aug. 29. But as you’ll see from everything we’ve posted here, the other news organizations didn’t start running their stories until Wed., Aug. 30. I mention that only to underscore that, as a Money Morning subscriber, you can be assured of getting news and investment ideas before everyone else.

One of the ways we do that is by tracking money flows, hence the name of our monthly sister publication, The Money Map Report. And I’m sure it’s no surprise to you that much of those money flows are flowing into – or out of – China.

If you’re just starting to add international investments to your holdings, or want to invest some money in China, look to a good China mutual fund or Exchange Traded Fund (ETF). That will provide you the long-term benefits of China’s continued explosive growth, while also giving you the diversification needed to rise out that economy’s inevitable swings. One top-performing mutual fund is the China Region Opportunity Fund (USCOX), which is managed by U.S. Global Investors Inc. (Nasdaq: GROW) – a great example, by the way, of a company that will be profiting indirectly from China.

I mention the China Region Opportunity Fund and U.S. Global Investors because the fund-management firm is well run, and its funds are well managed. The company is a favorite of several of our analysts here at Money Morning.

But if you’ve already got a start on your Asia and China investments, and are looking for something more sophisticated, you’ll want to read our new investment-research report. Our team has several profit opportunities that are related to the growth in China, as well as the rest of Asia. These profit opportunities are poised to benefit from the growing global commodities boom, and to the capital that’s needed to finance the industrial development taking place on that side of the world.

In fact, our worldwide research team has identified $867 billion worth of industrial investments that will be flowing through the global financial markets, and that are aimed at development initiatives in such key sectors as agriculture and biotechnology, telecommunications, energy and finance. Our analysts have labeled this confluence of capital as “The Big Money Bang.”

That $867 billion is about to rock the markets, fueling bigger profits than gold, telecom, and the Internet combined. Investors who tap in now are about to pocket $1.54 million in the next 18 months.

The “Big Money Bang” will create countless investment opportunities. But we’ve singled out the best four, many of them keyed to some of the trends discussed below. They include:

• A financial institution so tied into Asia’s booming development that we’ve nicknamed it “The One Stock You Can Retire On.”
• A commodities-related company with ties to both agriculture and biotechnology whose product is provided by so few firms that it’s actually “more precious than oil.”
• A power-provider involved in a $40 billion energy venture that’s central to China’s continued ability to grow.
• And a telecommunications company whose technology has the potential to revolutionize both Internet Video and Internet Telephony (VoIP) telephony. Unlike other tech wannabes, however, this company also has the managerial talent to pull it off.

To get the details on the companies we’ve mentioned in this free report, click here.
You’ll be glad that you did.

Related News and Story Links:

• Money Morning News Analysis:
  This $900 Million Bet Has Global Traders Talking.
• The Street.com TV Interview Video Clip:
  ‘Bin Laden’ Trades Stir Terrorism Fears.
• TheStreet.com:
  Dispelling the ‘Bin Laden’ Options Trades.
• TheStreet.com, et al:
  Bin Laden Options Trades Have Wall Street Whispering.

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Latvia, Iceland, Bulgaria and Turkey could be among the nations hurt the most if the global credit crunch continues to escalate, said a new Standard & Poor’s Inc. ranking of 15 countries from Eastern Europe, the Middle East and Africa.

S&P’s so-called “Liquidity Vulnerability Index” tries to measure the sovereign vulnerability of emerging economies to negative market conditions – which, in this case, is the deepening global credit crunch. According to the new report, the five most-vulnerable countries are Latvia, Iceland, Bulgaria, Turkey and Romania.

What started as a housing slump in the United States exposed the subprime mortgage crisis. And when it turned out those U.S. hedge funds – as well as banks in Germany and France, and probably others, too – had invested in the securitized versions of the subprime mortgages, meaning that it was now a worldwide problem. It’s almost as if the problem started as a local or nationally regional issue suddenly became an international problem, spilling over into the global credit and equity markets, prompting many investors to slash their exposure to risky assets, including investments in emerging markets.

In contrast, the four emerging markets facing the least amount of risk are Russia, Egypt, Ukraine and the Czech Republic. Rounding out the list of the other nations that are sovereign are South Africa, Hungary, Poland, Slovakia, Lebanon and Lithuania.

“We have not, to date, changed any ratings or outlooks due to the tighter financial conditions,” Moritz Kraemer, an S&P credit analyst, said in a statement accompanying the report. “Over the past 24 months, however, we have lowered ratings or outlooks for a number of sovereigns in the sample with deteriorating credit fundamentals.”

The nations that are ranked as the most vulnerable on the Liquidity Vulnerability Index have suffered the largest changes in outlooks or negative ratings in recent months, but placing a country in the vulnerable group doesn’t necessarily predict negative rating action, S&P said.

“Everything depends on the policy reaction by the authorities,” Kraemer said.

“Indeed, Standard & Poor’s last week affirmed the ratings and stable outlook on Turkey, despite the country’s well above-average vulnerability to changes in market sentiment.”