JP Morgan: Downgrade to Have Little Long-Term Impact

Monday, 08 Aug 2011 10:14 AM

 

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The Standard & Poor's downgrade on U.S. sovereign debt could lead to turbulent markets in the next two weeks, but the medium-to long-term impact could be minimal as it doesn't affect the current GDP growth forecast, said J.P. Morgan Securities.

The downgrade of the country's AAA credit rating on Friday is expected to have a spill-over effect on the financial system - from mortgages to banks to markets - that rely on U.S. Treasuries for collateral.

Despite mounting stress in Eurozone sovereign credit markets, the U.S. economy is still on its way to recovery with the July labor report showing reasonable momentum, JP Morgan chief U.S. equity strategist Thomas Lee said.

"Corporates have gained significant credibility against sovereigns, and given their impressive gains (share of GDP) argue for lower equity risk premia and thus, we expect equities to regain traction following a return of visibility on sovereign debt markets," Lee wrote in a note to clients.

Historically, equity markets have generally rallied even after sovereign downgrades by rating agencies, he said.

Separately, Baird in a note to clients, said the S&P downgrade should not "be a meaningful issue" for U.S. banks, and will have no impact on banks' capital levels.

The Federal Reserve and U.S. FDIC has said the sovereign debt exposure has a zero risk weighting for regulatory capital calculations.

While the downgrade puts a dent in the US dollar as a reserve currency, BofA Merrill Lynch analysts do not expect emerging markets' central banks to be in a rush to unwind their dollar holdings.

Long term, BofA analysts felt that rating cut has negative implications for the mortgage market and, by extension, the fragile U.S. housing market.


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