Investors play safe as US default nears

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Investors play safe as US default nears

WASHINGTON — Investors headed toward safety Friday — including into US Treasury bonds — as the deadlocked US government moved closer to defaulting on its debt and being hit with a historic credit downgrade.

By (AFP)

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Published: Sat 30 Jul 2011, 12:48 PM

Last updated: Mon 6 Apr 2015, 5:23 PM

With the country facing a possibly devastating cash crunch from August 2 and politicians unable to agree a plan to deal with its massive debt and deficits, investors and bankers sought liquidity and safe havens from the unpredictable fallout.

‘We’ve added several billion dollars of excess cash which we think is a prudent thing to do in the environment of uncertainty that exists today,’ said Steven Goulart, chief investment officer of giant life insurer MetLife.

Investors and bankers jumped out of the shortest-term US debt, those Treasury bills and notes maturing in the first weeks of August, out of fears that payment could be delayed.

But they also confidently piled into longer-term Treasuries, sending the yield on the 10 year bond down 14 basis points to 2.81 percent.

Foreign exchange traders sent the dollar to a record low against the safe-haven Swiss franc — 0.7864 per dollar, compared to 0.7990 late Thursday.

It neared a benchmark low against the yen, which moved to 76.73 yen per dollars compared to 77.74 yen a day earlier.

Gold meanwhile powered to a new record of $1,632.80 per ounce, another sign of a move to safety.

And despite a slew of buoyant second quarter earnings reports, stock investors sold off holdings, sending the markets to their worst week of the year.

The Dow Jones Industrial Average lost another 0.8 percent Friday for a total fall of 4.2 percent for the five days.

The biggest worry is that Congress will not raise the $14.3 trillion debt cap before August 2, when its spending commitments will begin to outpace cash inflow by $120 billion a month or more.

That, investors worry, could force it to default on debt payments, at least in the short term, sending a shock through credit markets and earning the country its first-even credit downgrade.

While many — including rating agency Moody’s — said they doubted the US would default on its debt, they saw a ratings downgrade much more possible.

But few knew how it would impact the markets.

‘Different types of events have happened in history and we know to some extent how markets react to those events,’ said Owen Fitzpatrick of Deutsche Bank.

‘But here we never had a credit downgrade. It’s unchartered territory.’

‘The recovery has lost momentum, the US is up to its neck in debt and the Federal Reserve is considering more stimulus,’ said Kathy Lien of forex experts GFT.

‘If the US loses its prized AAA rating, it will truly be the straw the broke the dollar’s back.’

Financial institutions moved defensively toward more liquid assets, even as they dismissed the likelihood of a default.

Barclays Capital said it expected a jump in money flowing into non-interest bearing bank accounts, and the volume of transactions on the short-term interbank repo market to fall due to heightened risk aversion.

‘If you look at what’s happening in the market, there is a fair amount of stress that is starting to build up, but nothing like the catastrophic levels we had (in 2008),’ said MetLife’s Goulart.

‘We are seeing it on a daily and hourly basis... most importantly, everybody is building cash.’

Worried savers and investors sucked cash out of money market funds, mindful that some of the vehicles, normally seen as foolproof, turned out to be losers in the 2007-2008 financial crisis.

But, according to the Investment Company Institute, money market fund managers ‘have been looking far ahead and appear to have been preparing their funds for these conditions.’

That combined with post-crisis rule changes, ICI economist Brian Reid said, means that money market funds ‘are no more vulnerable’ to the default-and-downgrade threat than other assets.

‘I don’t know of any scenario in which money market funds would be disproportionately affected compared to other market participants by a failure to raise the debt ceiling.’

Even so, said Barclays Capital, ‘Until there is clarity over a resolution, global rate markets will remain in risk aversion mode.’

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