Wall Street's Slow Burn Heats Up as Washington Fiddles

Tuesday, 08 Oct 2013 05:40 PM

 

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U.S. stocks fell, giving the Standard & Poor’s 500 Index its biggest two-day loss since June, as concern grew that a deadlock among U.S. lawmakers over the debt limit could lead to a government default.

The S&P 500 fell 1.2 percent to 1,655.55 at 4 p.m. in New York.

“The market is going to start to push the government,” Rick Fier, director of equity trading at Conifer Securities LLC in New York, said in an interview. “The longer it drags on, the more uncomfortable everyone gets because we will not rally until something gets done. Get out now and wait for the storm to pass to get back in.”

The S&P 500 slumped 0.9 percent yesterday to a four-week low as lawmakers remained deadlocked over extending the nation’s debt limit to avoid a default. Its two-day slide of 2.1 percent is the biggest since June 21. The gauge has fallen 4.1 percent since its latest record on Sept. 18.

President Barack Obama said the U.S. economy risks a “very deep recession” if Congress doesn’t raise the debt ceiling. Obama spoke less than four hours after he called House Speaker John Boehner to “reiterate that he won’t negotiate on a government-funding bill or debt-limit increase,” said Brendan Buck, a Boehner spokesman.

Lawmakers began taking the first tentative steps toward a path to raising the limit even as the rhetoric grew more divisive. Senate Democrats are planning a test vote before the end of this week on a measure that would grant Obama authority to raise the ceiling, probably for a year, unless two-thirds of both chambers of Congress oppose.

Small Probability

The Treasury has said that it will exhaust measures to avoid exceeding the borrowing limit on Oct. 17. If that happens, the government will run out of cash to pay all of its bills at some point between Oct. 22 and Oct. 31, according to the Congressional Budget Office.

Even as the probability of a U.S. government default is “very, very small,” volatility in the markets will increase in coming days, said Mohamed El-Erian, chief executive officer and co-chief investment officer at Pacific Investment Management Co. A U.S. default on its debt obligations would prove more unpredictable to financial markets than the 2008 collapse of Lehman Brothers Holding Inc., he said.

“What frightens us the most is what happens to the plumbing system of the global-financial system,” El-Erian said in an interview on Bloomberg Television’s “Bloomberg Surveillance” with Tom Keene. “You will have cascading failure, multiple defaults, and Treasurys that act as collateral would be very difficult to exchange and people will simply step back. It will be like Lehman, but more unpredictable.”

Earnings Season

The S&P 500 has declined 1.6 percent since the government began on Oct. 1 its first shutdown in 17 years after lawmakers failed to reach an agreement on budgets before the start of a new fiscal year. As the shutdown delays the publication of some economic data, investors will turn their attention to companies’ financial results.

An earnings release from Alcoa, America’s largest aluminum producer, marks the unofficial start of the U.S. quarterly reporting season after the close of New York trading. JPMorgan Chase & Co. and Wells Fargo & Co. will also report this week.

Profits for the S&P 500 probably increased 1.7 percent during the third quarter while sales rose 2.2 percent, according to analysts’ estimates compiled by Bloomberg. Analysts anticipate earnings growth to accelerate to 8.9 percent in the final three months of the year, the data show.

Recommendation Cut

“A lot of the S&P earnings for the year are fourth-quarter loaded,” Bernie Williams, chief investment officer of investment solutions who oversees $16.7 billion at USAA Investments in San Antonio, said in a phone interview. “It’s more of the commentary that counts.”

Garry Evans, global head of equity strategy at HSBC Holdings Plc, cut his recommendation on U.S. equities to neutral from overweight, saying valuations are “a little stretched.” He advised investors to increase holdings in emerging markets because growth in China is stabilizing and stocks are cheap.

The S&P 500 has climbed 16 percent this year as earnings beat estimates and data from manufacturing to housing and the labor market improved. The benchmark gauge is trading at 16 times reported earnings, up 12 percent from the beginning of the year and compared with a multiple of 11.9 for the MSCI Emerging Markets index, data compiled by Bloomberg show.

The International Monetary Fund reduced its global outlook for this year and next as capital outflows further weaken emerging markets and warned that a U.S. government default “could seriously damage the global economy.”

Growth worldwide will be 2.9 percent this year and 3.6 percent next year, the IMF said in a report released in Washington, compared with July predictions of 3.1 percent for 2013 and 3.8 percent for 2014. The IMF’s forecasts factor in a short U.S. government shutdown and an agreement on the nation’s debt-limit before the Oct. 17 deadline.

© Copyright 2014 Bloomberg News. All rights reserved.

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