Wednesday, October 9, 2013

The uncredible threat-OR-The waiting-AND-Tom Petty (video)

It's been eerily quiet in my world this past week and a half. One might think that, given the advertised threat of catastrophe, investors, en masse, would be storming the exits. Yes, the Dow's off a few hundred points since the "shutdown" began, but trust me, a panicky sell-off this ain't been. What we've witnessed the past few days is what you'd call a buyers strike. Meaning, most would-be buyers are sitting tight till the storm subsides. Meaning, anyone desiring to sell has been at the mercy of the few buyers who are willing to test the water, but who are forcing sellers to meet them at somewhat lower depths.

So, no one's panicking, and, therefore, stocks aren't replaying that 2011 rout. That's good, right? Well, yeah, but if you're tired of waiting on that group of self-serving U.S. citizens who had what it took to ascend descend to "higher" office (the ability to promise bennies to their backers while [with a straight face] promising to unfailingly serve the masses) to kick our ugly fiscal can down the road, you really want that rout. Nothing will inspire Boehner to put a clean resolution and a debt ceiling increase to vote faster than, say, a thousand point one-(or two)-day plunge in the Dow.

Now lets you and I explore the prospects for a U.S. government debt default. First of all, there are no prospects for a U.S. government debt default; even if---by some miracle display of political will---the debt ceiling doesn't get raised. Here's why: Say your household income this year will be $100,000, and your debt service payments will total $15,000 (which, btw, is a higher debt service to income ratio than Uncle Sam's). Now let's assume that, up until this year, you spent every dime you made---leaving nothing to make your loan payments---but were able to leverage your perfect credit rating to borrow enough, and some, to service that debt. This year, however, for whatever reason, you can't borrow to make those payments. What do you do? Continue to spend every dime and not service your debt? Or do you simply bite the bullet, cut out a few nonessentials and preserve your credit standing? You, of course, do the latter. As will Uncle Sam.

But let's, for conversation's sake, say the impossible happens: We get to October 17th (if that indeed is the drop dead date) and the U.S. says to the world "sorry we can't make you that interest payment right now. We have other obligations to meet, but don't sweat it, we'll get back to you shortly." What, for example, is China to do? Sell its trillion+ in treasuries? And, if so, to whom? At what price? And if China did, wouldn't Japan? And if China and Japan essentially sparked what the world would view as a Lehman, of course opportunists would bid those bonds down to rock bottom prices. In fact, I'd join in on behalf of our clients. That's right, I'd be a buyer of treasuries at those lower prices, bigtime! (although the Fed would surely beat me to it) Why? Because there's no way a default gets to last more than the time it takes for China to unload a penny's worth of treasuries and/or the Dow to drop that thousand points. Or to do God knows what to the repo market, or the commodities futures market (where treasuries by the billions are used as collateral). Or authorities to change the rules that would otherwise spark the sale of a downgraded debt security in, say, money market funds and some pension plans.

Congress would convene, the debt ceiling would be raised and the treasury would issue the world's safest security like nothing ever happened. And, by the way, China wouldn't, after all, sell a penny's worth.

As counterintuitive as it seems, if America defaults for a day or three, I see treasury yields plunging (prices rising) and the dollar rallying as the panic-stricken race to "quality" (of course a month or three might be an altogether different proposition). Which means, alas, that great buying opportunity in treasuries doesn't materialize. Although stocks would become a screaming buy.

I could very well be wrong; perhaps the world would rush to the bund (Germany) instead, and maybe our financial system would indeed collapse, as so many are predicting. The thing is, my reputation as a prognosticator (this is my first-ever official short-term stab btw) is in no jeopardy, for there's no way my prediction is going to be tested.

So, while the politicians play their cards, the world waits for clarity. As for you and me, in the words of the great Tom Petty, "baby we know better than to try and pretend"...  

"The waiting is the hardest part
Every day you see one more card
You take it on faith, you take it to the heart
The waiting is the hardest part"

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