Since August 2007, the Fed has cut its Fed funds rate from 5.25% to 0.25%. So shouldn't the cost of borrowing be down 5% as well? At first glance you might think that the cost of corporate borrowing would be down right along with the Fed funds rate. But rather than dropping 95%, the cost of borrowing for even the most credit worthy companies has nearly doubled. That matters because companies are likely to try to borrow $700 billion in 2009. And therein lies the reason that the Fed has no power to fix what ails us.

Here are two examples:

• Southwest Airlines (NYSE: LUV) , the only investment grade rated airline, raised $400 million in bonds in December 2008 to cover its losses from betting that fuel costs would stay high. Rather than paying the roughly 6% it had paid in 2004 to raise $350 million when the Fed funds rate ranged between 1.25% and 2.25%, Southwest had to put up 17 of its Boeing (NYSE: BA) jets as collateral and pay interest of 10.5% percent, nearly double the rate it had paid in 2004.
• Nabors Industries (NYSE: NBR), an oil services company, issued $1.1 billion in 10-year bonds in early January 2009, agreeing to a 9.25% -- in January 2008 when oil prices were rising, Nabors paid a mere 6.15% to borrow $975 million.

Why are companies paying more to borrow even though the Fed has slashed its short-term rate to near zero?

March 18: Dow 12,392 (up 420 points); trading range, 435 points

Just one day after the collapse of Bear Stearns, the market rallied on a 75-basis-point Fed rate cut and better-than-expected earnings reports from Goldman Sachs (NYSE: GS) and Lehman Brothers (OTC: LEHMQ).

Looks like someone wasn't paying attention.

The clear focus was on the much-anticipated Fed cut that dropped the fed funds and discount rate to 2.25% and 2.5%, respectively.

There was a slight pause during the session, as some hoped for a 100-basis-point cut, but traders pushed onward to finish strong and add another 100 points to the Dow before the close.

All sectors rallied into positive territory for the session and the S&P 500 posted its biggest one-day percentage move since October 2002.

Greg Tucker is the executive editor of OptionsZone.com.

This strategy went from being a modestly successful trade through October to a hero-sized trade in the past 45 days.

The Fed funds rate, the most widely followed interest rate the banks charge each other for overnight lending, topped out in August 2006, at 5.25%.

When the Fed started easing rates thereafter, no one at the economic think tanks forecasted anything close to what we are seeing today (namely a Fed funds rate of zero to 0.25% -- a decline of a full 5% in 17 months).

The decline in rates started out so orderly and coordinated that it seemed almost too good to be true, and the Dow Jones Industrial Average hit an all-time high, topping 14,000 for the first time in July 2007.

However, the quarter-point cuts gave way to a three-quarter-point cut, or 75 basis points, on Jan. 22, 2008, signaling that the Fed was seeing a material breakdown in the credit and housing markets. Following that seemingly radical rate cut, just eight days later on Jan. 30, the Fed again slashed the Fed funds rate by another half point, or 50 basis points, to 3%.

From there Bernanke & Co. held steady for a couple months to see if any good would come of their efforts.

When evidence of further erosion in the credit markets surfaced with the impending collapse of Fannie Mae (NYSE: FNM), Freddie Mac (NYSE: FRE), Indy Mac, Bear Streans and Lehman Brothers (OTC: LEHMQ), the Fed lopped another three-quarters of a point off the Fed funds rate, taking it down to 2.25% on March 18.

That was considered the absolute floor at the time, a level that would stick. But that wasn't the case.

This post was written by anonymous Minyanville contributor Peter.

With the Effective Fed Funds Rate running anywhere from 10-15 bps of late, what the Fed does with the Target Rate is completely meaningless in my book.

What will be far more important today is how the major banks react with their prime rates. Historically, banks move their prime rates basis point for basis point up or down with changes in the Fed Funds Target. But for every bank I know, they have far more loan assets indexed to prime than they do liabilities indexed to Fed Funds so, unless banks can lower deposit rates, further drops in the Target Fed Funds Rate actually hurt bank margins.

I believe the Fed is well aware of this issue (and contrary to many others, I believe this is a big reason behind the current "gap" between the Fed Effective and Target Rates.)

I know many small banks who, over the past year, have already "decoupled" their prime rates from the Target Fed Funds Rate. But it is the major banks whose prime rates drive the "market standard" Wall Street Journal-quoted Prime used for most loan pricing.

With rates near zero, banks unable to reprice deposits lower due to competitive pressure, and the need for margin expansion to help cover loan losses, my bet is the Big Guys decouple.

And in this environment, I strongly doubt anyone (ie the regulators) will say a word in opposition.

Oh man, the news coming from the Fed seems to get worse and worse. On a day when financials like Citigroup (NYSE: C) continue to weaken -- Merrill Lynch (NYSE: MER) reduced Citi's outlook -- Fed head Ben Bernanke sends the market indication that we are not yet near the end of the mortgage debacle, and he is looking for a "vigorous response" to address it.

According to an AP article, Bernanke, in an address to a banking group, stated that the mortgage crisis was not done, and that more relief would be necessary for homeowners who simply are unable to balance their books. This isn't what anyone on Wall Street wanted to hear, and certainly not what an individual investor like myself was looking for, either; I have ample financial exposure in the form of MFA Mortgage (NYSE: MFA) and Newcastle Investment Corp. (NYSE: NCT).

Further, Bernanke made a suggestion that bankers would obviously find tough to implement -- he said that a reduction in loan principal might be an appropriate way to relieve a struggling owner of real estate. Hmmm, that might not go over too well, especially with the crowd that isn't happy with government intervention -- now Bernanke is calling for lenders to be more lenient? But, what should one expect? This is the Fed, after all, and it's the institution's job to promote some economic homeostasis in times of need. Bernanke believes more foreclosures are coming, and he wants to get ideas out there that will save as much home equity as possible. He brings up a good point, implying that lenders will benefit from loan-principal reductions simply because the rate of foreclosures would, in theory, decline as a result of such a tactic.

The Bear Stearns Companies Inc. (NYSE: BSC)'s option prices decrease after the Federal Open Market Committee lowers rates; BSC earnings per share (EPS) come out on September 20:

BSC is expected to report 3Q EPS of $1.78 on September 20, according to Thomson First Call. BSC was recently up $3.22 to $118.47. The FOMC lowered the Fed Funds rate by .50 to 4.75%. BSC September 120 straddle was priced at $7.30. BSC October option implied volatility of 49 was below a level 58 from two hours ago and below its 7-week average of 57 according to Track Data, suggesting decreasing price risk.

Morgan Stanley (NYSE: MS) volatility decreases after FOMC Lowers rates:

MS EPS comes out on September 19. MS is expected to report 3Q EPS of $1.53, according to Thomson First Call. MS was recently up $3.68 to $68.58. The FOMC lowered the Fed Funds rate by .50 to 4.75%. MS September 70 straddle was priced at $3.05. MS October option implied volatility of 35 was below a level of 38 from two hours ago and near its 7-week average of 38 according to Track Data, suggesting decreasing risk.

The Goldman Sachs Group, Inc. (NYSE: GS)'s option prices decrease after FOMC lowers rates:

GS EPS comes out September 20. GS is expected to report 3Q EPS of $4.35, according to Thomson First Call. GS was recently up $11.75 to $199.35. The FOMC lowered the Fed Funds rate by .50 to 4.75%. GS September 200 straddle was priced at $8.40. GS October option implied volatility of 33 was below a level of 39 from two hours ago and below its 26-week average of 35 according to Track Data, suggesting larger risk.

Daily options Update is provided by Stock Specialist Paul Foster of theflyonthewall.com.

The Fed's decision Friday morning to lower the discount rate -- the rate at which the Fed makes direct loans to banks -- by 50 basis points to 5.75% is being viewed, at least initially in financial and policy circles, as a prudent step to address a liquidity crunch.

Further, Wall Street's initial reaction was positive, with the Dow up about 200 points to about 13,047 in the first hour of trading.

For the most part, analysts agreed that the Fed, by using the discount rate, has provided essential liquidity, while not violating the doctrine of moral hazard, i.e. create a monetary stance that encourages reckless, irrational lending.

Further, the Fed's move Friday also maintains the Fed's option of cutting, raising or maintaining the federal funds rate - the rate at which private institutions lend to other depository institutions overnight. The target for the federal funds rate remains 5.25%. Even so, many economists expect the Fed to cut that rate at the Fed's next meeting on Sept. 18.

As expected, the Federal Reserve Board is leaving rates unchanged following their meeting today. The federal funds rate will remain 5.25% until next month's meeting. While many analysts believe this lack of change will continue through the end of the year, some are saying that one more increase will take place in the next few months.

Unfortunately, Ben Bernanke gave no interesting snippets in the press release announcing the results of the Fed meeting, so we'll just have to wait for the juicy stuff I suppose.