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Are the markets pricing for possible but not probable recession? or Ask of QE3, low rates?

From July 22nd to Aug 8th, the S &P 500 index have dropped 17% (134 to 111.15). DJIA and Nasdaq are right there with S & P with these downside percentages.

So, what happened in these 16 days one would wonder after a decent Q2 earnings from most of major players across sectors?  

Two events, 
1) Debt ceiling bill - Refer to Comments on Debt Ceiling bill of 2011
2) US Debt rating downgrade by Standard and Poors  

Rating downgrade is for the government debt. If you look at the treasuries, their yields are dropping, a completely reverse effect. 

So, Is the market pricing for recession? Is it pricing for a severe one looks like it?  Is it asking for QE3 or perhaps continued lower rates given the Fed meeting tomorrow? Is it overdone? 

Is it saying that up coming potential spending cuts of 1.2T in December could create a recession? Why price for a severe recession as if it is already here? 

Believe it or not, the markets are below the famous August 2nd 2010 QE2 (QE2 Consequences fed meeting level in 16 days. Announcement of QE2 provided close to 17% upside to the equities.  

Bottom line, I think this collective wisdom of markets are not adding up today as it seems it is way overdone to the downside.