The US stockmarket has come off its worst quarter for five years with its best start to a second quarter for 70 years with a 3% or 391 point gain for the Dow (our market rallied 3% this morning, despite the doubts over Opes Prime and Tricom). But why?

US and European investors found joy in the news that UBS and Lehman Bros are raising around $US19 billion in new capital. The Lehman Bros’ offering was oversubscribed, while UBS chucked its chairman and announced another $US19 billion in subprime related writedowns.

UBS has now lost over $US37 billion, topping Citigroup, which is due to report first quarter figures within the next 10 days. UBS has already raised $US13 billion in new capital and wants to raise the same again from shareholders.

Investors in the US and Europe cheered, when a month ago there would have been doom and gloom. Why? Because by agreeing to demands for a higher price for Bear Stearns last month, the US Federal Reserve sent a clear signal that big financial groups will not be allowed to fail.

So now banks and other financial stocks are soaring, while commodities have fallen sharply (gold plunged nearly $US34 to just under $888 an ounce last night, after peaking at $US1,033 an ounce two weeks ago).

But the pain in the financial sector looks far from over. In the US, a big Midwest bank, National City, has hired Goldman Sachs to shop it around because its finances have been so badly damaged by the subprime mess (it’s too small for the Fed to save). And Goldman Sachs has also downgraded earnings outlooks for rivals, Merrill Lynch and Citigroup, while Morgan Stanley analysts in London wrote that the (investment banking) industry “faces the worst crisis in 30 years”.

Rating agency Standard & Poor’s said the number of debt issuers at risk of a downgrade globally rose to a record 703 in March, with media and entertainment companies among the most exposed. “Credit fundamentals have been deteriorating in response to recessionary fears, along with a material slowdown in housing and consumer-related activities,” said S&P credit analysts in the report.

The world’s financial markets are still deleveraging: credit is still being eliminated as asset prices fall and risk premiums (AKA interest rates) rise. In their present euphoria, markets will meet this falling level of credit on the way up… and they will all come down again.