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Christian W. Thwaites Initial reactions were a Peace Frog[1] kind of day. But step back and parse. 1. The decision was political: all sorts of criticisms leveled at the body politic. Nowhere does their statement say the US Treasury cannot or does not want to pay. Nowhere does it say the US is unable to pay. Nowhere does it cite a risk of late payments. Nor of principal adjustment. Last Monday, they said $2 trillion was the number they wanted addressed in the debt deal. Then on Friday night, they admitted to a $2 trillion mistake in their math. Either $2 trillion matters or it doesn't. Which is it? 2. Forced Sellers: No major CBs will start a fire sale for the simple reason that the large FX accumulators are desperate to keep their currencies from appreciation. Some mutual funds may have technical violations of their prospectuses but boards will have to decide if it is in shareholders' interests to sell into a highly charged market or stay in investments that will pay in full on time. We think they will choose common sense. 3. What's happening now: GT10s unch, global stocks off by 2% or so, ECB buying Spanish and Italian bonds (so big bond rally there), agency ratings have been cut in Federal Home Loan Bank, Fannie and Freddie, and munis that are defeased with Treasuries, but as of pixel time not Ginnie Mae, HUD or Sallie because technically there's no rating on pass-through pools. It's coming out in pieces. Stay tuned. Stocks are reacting to the technicals and there's a tug of war on the 1150 level. Don't expect much rational investing for now. 4. And one more thing: bond investors like nothing more than low growth, high unemployment and low inflation. In an asset class of finite return, their only concern is to be paid in real, non-depreciated currency. Fine. Japan is an example where government bonds returned 600% in the two recent decades to a dollar investor, and stocks fell by two thirds. Many commentators are seemingly fine with that. We disagree. Some fiscal stimulus and inflation can be very good for the economy at large. Bond vigis have a visceral fear of both. If nothing else, the downgrade can start a sensible discussion on the growth/debt trade off. Oh, and trust your own ratings and views. There's nothing to be gained by following a rating agency like S&P. Sources: FT Alphaville, Gavyn Davies, Bloomberg [1] Morrison Hotel |
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