Friday, 21 September 2018

US default...? Yawn.

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Anthony Peters argues that not even a temporary US default would do lasting damage.

Anthony Peters

Anthony Peters, SwissInvest strategist

Please raise your right hand if you are both bored and unimpressed by the ritual game of chicken which is being played between Capitol Hill and 1600 Pennsylvania Avenue. Now lower it again if you believe that a last minute solution will be found in order to prevent the States from falling into default. Hmm, I thought so.

Why, we quite rightly ask ourselves, do we have to go through this nonsense and who, if anyone, gains from the gridlock? The markets most certainly don’t but then, on the other hand, they don’t seem to be suffering too much either. On the contrary. In an environment in which nobody seems too certain whether to be long or short, having a darned good excuse for doing nothing is a much appreciated and highly valued commodity.

In their cluelessness, they rally on any sign of possible compromise, only to then sell off again when said signs prove to have been but a false dawn. However, if asked, hand on heart, whether they really do expect the fighting parties not to come up with a compromise, I’d suggest that nigh on all players in markets will agree that attitudes will soften even if rhetoric doesn’t and that something will be cobbled together in the eleventh hour.

I can’t see anything which would cause permanent damage.

The faith in the process was reflected Friday in the rally on Wall Street which was, although not massive, significant enough to show that there is no abject panic priced into the system. The 5yr Credit Default Swap in sovereign US debt might have spiked back up to 45bp from 18½bp this time last month but it has averaged 32bp over the past year and around 42bp over the past 5 years so in a way it hasn’t really gone very far.

The VIX index, much loved by broadcast journalists who have dubbed it the “fear index”, ended Friday at 16¾ which is chicken-feed compared with its June high of just above 20, its 12-month high, and not a million miles from its average over the period of just under 15. So, all tolled, markets remain relatively sanguine, which I heartily approve of.

Lehman, chalk and cheese

But if the US were to fall into technical default, would it really be the biggest thing since Lehman went under? Talk of comparing apples with chewing gum! Uncle Sam might be indebted up to the ying-yangs and he might even, perish the thought, miss a coupon payment but I don’t think that any severe market reaction to such an event would be called for.

We all know that it would have been due to a technical event and for creditors to hit the panic button would really be a little bit silly. Nevertheless, somewhere there will surely be some hot-headed 28 year old with a Masters degree from Ulan Bator in Banking and Finance and an MBA from Mogadishu who thinks that lifting sovereign CDS on the US in size will make him a hero and who could quite easily trigger a chain reaction amongst like-minded youngsters… but I can’t see anything which would cause permanent damage.

Chevron-Texaco once put itself into protective Chapter 11 and hence into default despite being one of the world’s largest and most profitable oil companies and at the time nobody actually thought of it as being bust – which if course it wasn’t. It did so at the time in order to avoid civil proceedings emanating from a take-over bid for, I seem to recall, Getty Oil.

Likewise, should there be a delay in passing the debt ceiling increase and should the Treasury run out of little pockets of cash, I can’t see the US being immediately lumped in with the like of Argentina and Venezuela. My best guess is that within just a few days of the cash taps being reopened, treasuries will return to the risk free status which they deserve. I therefore stick with my view that we continue to buy risk on dips for the short term trading but I still remain concerned that the real issues of persistent deficits, whether growing or shrinking, have not been addressed.


Meanwhile, please permit me to welcome back Alex Moffatt of Joseph Palmer & Sons in Melbourne who has, together with his charming wife, spent a month travelling around Italy and supporting its embattled economy. It’s been tough not waking up in the morning to the incisive observations and comments which he puts out every day when markets in Oz fire up. Life has just become a hell of a lot easier again. Thanks Digger and I hope you got some good snaps of those spaghetti trees I told you to look out for.

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