Thoughts on the Debt Ceiling Debate

In recent weeks, the pending concern of the US debt limit has garnered lots of attention. This crisis creates the potential for another financial “meltdown,” especially when we consider that there’s a similar crisis on the other side of the Atlantic – a crisis in Greece that has the potential to rapidly spread to Ireland, Portugal, Spain and even Italy.

The risks are clearly great if we don’t get an agreement. The problem is that we don’t know what will happen. The crisis could be resolved, or we could see a default. We could also see defaults in Greece and other defaults might follow, and we might also see the end of the Euro, and who knows what else.

It’s interesting to note that the stock market has risen in the past month despite these problems. On June 15, the S&P 500 Index closed at 1,265, despite:
• The failure to resolve the US debt ceiling problem
• No resolution on the Greek crisis
• Weakening economic data
• Rising unemployment
• The end of QE2 (which some gurus were predicting would lead to major problems for the bond and stock market alike)

On July 14, the S&P 500 closed at 1,308, up more than 3 percent. And despite Moody’s warning of a downgrade of Treasury debt, the 10-year Treasury rate was unchanged at 2.98 percent. I doubt many would have predicted that outcome.

So that brings us to what YOU should do about the situation. I can tell you what I am doing as your advisor. I’m not making any adjustments to client portfolios in response to the debt ceiling debate. The market is well aware of the fact that the debt ceiling discussions are ongoing and U.S. Treasury rates are still very low, indicating the market believes the debt ceiling will be increased and that financial market disruptions are unlikely. I believe that efforts to try to move in or out of the stock or bond markets in anticipation of what will happen aren’t productive.  As I have noted before, the reason why we create well-developed plans for our clients, is that it will have anticipated crisis (which by definition aren't predictable or we would avoid them) and incorporated the virtual certainty that they'll occur.  This should allow us all to sleep easier at night.  If you aren't and your stomach is tossing and turning, then you either don't have a well-developed plan or you were overconfident about your ability to deal with bad economic times.

Even if the worst case scenario materialized and the U.S. debt ceiling isn’t raised, it’s seems likely that it would be raised quickly if there were any subsequent disruptions in the financial markets. Also keep in mind that this is a political technicality more than anything and not an issue with the capacity of the U.S. government to pay its debts.

And if you are reading this late at night because you can't sleep over worrying about the financial pornography shot out at you from all directions, then you should immediately develop a plan, rewrite your plan and permanently lower your equity allocation because this likely won't be the last crisis we have to deal with, or watch and listen to less of the media hype.