LA Private

Debt ceiling stymie giving everyone the twitches

The Australian stock exchange fell heavily yesterday after the Fitch ratings agency placed its AAA credit rating for America on a negative outlook, meaning a downgrade is imminent if there’s no agreement to lift the US debt ceiling.

The news saw US stockmarket futures fall and the US dollar rise, which forced the Aussie dollar down to around 65.20 US cents. That’s down a cent in just over a day as the US dollar hit new two-month highs against major currencies.

The ASX 200 fell more than 70 points, or 1% as the losses accelerated during the session. Markets elsewhere in Asia were weaker (except for the booming Tokyo exchange which rose slightly).

Gold also fell in the Asian session as the US currency firmed when it should have firmed as a so-called safe haven investment at times of global uncertainty.

“The Rating Watch Negative reflects increased political partisanship that is hindering reaching a solution to raise or suspend the debt limit despite the fast-approaching x date (June 1),” Fitch said in a statement.

Yields on US bonds eased to around 3.7% for the 10-year note but surged above 5% for the one- and two-month T-notes.

Fitch’s AAA negative rating means that only Moody’s has a AAA stable rating on US debt among the big three ratings groups. S&P Global has had an AA+ stable or negative rating on US debt since 2011. It is currently a stable outlook.

Fitch only moved the US rating off a negative outlook last July – it shifted to a negative setting in 2020 before the US President poll and the gathering Covid pandemic.

Fitch issued its change of outlook after US sharemarkets closed for trading on Wednesday with losses that echoed those in Europe and Asia.

Fitch noted that it still expects Washington officials to arrive at a resolution before the deadline.

“However, we believe risks have risen that the debt limit will not be raised or suspended before the X-date and consequently that the government could begin to miss payments on some of its obligations,” the rating agency said.

US Treasury Secretary Janet Yellen said on Wednesday: “One of the concerns I have is that even in the run-up to an agreement, when one does occur, there can be substantial financial market distress. We’re seeing just the beginnings of it,” she said, referring to rising levels of share and bond market volatility in recent days.

Earlier a senior executive at Moody’s, another ratings agency, said that while his company expected a deal to extend the limit, the chances of a debt default were rising.

William Foster, a senior vice president at Moody’s, told Reuters that while the agency expects a debt ceiling deal, it is bracing for long negotiations and a series of one-off deals to extend the time for a final deal.

He said the US government would be considered in default if it missed debt payments, which would trigger a downgrade by the ratings agency by one notch to “Aa1 (it is currently Aaa stable rated and has been at that highest level since 2013).

But he said Moody’s could take action before a default by changing its outlook on the US government to negative from stable if lawmakers indicated that a default is expected. A change in outlook would reflect a material increase in the probability of a downgrade.

That is what Fitch has done and analysts are now watching for what S&P Global do (it is normally the most conservative of the three big agency). A 4th and smaller agency, DBRS Morningstar has the US on a AAA stable outlook as well.

John Chambers, CEO and chairman of the sovereign rating committee at S&P in 2011, told the New York Times this week, “The current debate validates S&P’s decision to cut the rating and leave it there.”

Treasury Secretary Janet Yellen said on Wednesday that Biden had offered changes that would result in a $1 trillion reduction in the U.S. deficit, and that there would be some obligations that the U.S. government would be unable to pay if the debt ceiling was not raised.

While the risk of a default that could precipitate a recession is bad for the United States, investors worried about the repercussions for the global economy have turned away from riskier assets.

Reports that Treasury has asked federal agencies whether they can delay upcoming payments added to the sense of crisis.

“Payment prioritisation is now real,” Chris Weston, head of research at brokerage Pepperstone in Melbourne, wrote in a client note.

“And while it seems highly prudent to have this conversation, the market’s anxiety levels have heated up consequently,” he said. “The market is starting to de-risk.”

World stocks dropped on Wednesday as U.S. debt ceiling talks dragged on without resolution, stoking a general malaise in markets that saw safe-haven assets such as the dollar hold around recent highs.

But crude oil prices bucked the downtrend and kept rising, after a warning from the Saudi energy minister to speculators that raised the prospect of further OPEC+ output cuts.

Negotiators for Democratic President Joe Biden and top congressional Republican Kevin McCarthy met again on Wednesday to end an impasse in talks.

McCarthy said earlier on Wednesday that while there are still differences between Democrats and Republicans over spending, he believed that a deal could be made.

Time is running short for a resolution, and the Treasury Department has warned that the federal government could be unable to pay all its bills by as soon as June 1 – just eight days away – and it would take several days to pass legislation through the narrowly divided Congress.

The U.S. S&P 500 index ended down 0.73% by mid-day, the Dow Jones Index lost 0.77%, and the Nasdaq Composite dropped 0.61%. That helped to drag the MSCI world equity index, which tracks shares in 49 nations, down 1.01%.

“Equity markets are now beginning to fret about the debt ceiling debate,” said Nicholas Colas, co-founder of DataTrek Research. “T-bills were way ahead on this call, and they are not yet signalling an all-clear.”

Yields on one-month bills, which are being shunned on concerns about payments coming due when the Treasury is most at risk of running out of money, hovered near a record high of 5.8005%.

Benchmark 10-year U.S. Treasury yields, meanwhile, edged down to 3.7361%.

The U.S. dollar index, which measures the currency against six major peers, rose 0.33% to 103.89, nudging further above a two-month high of 103.63 reached last week.


Moody’s expects lawmakers will eventually reach an agreement on raising the borrowing cap this time around. But it is bracing for protracted negotiations and potential temporary solutions, William Foster, a senior vice president at Moody’s, told Reuters.

The U.S. government would be considered in default if it missed debt payments, which would trigger a downgrade by the ratings agency by one notch to “Aa1.”

But Moody’s could take action before a default by changing its outlook on the U.S. government to negative from stable if lawmakers indicated that a default is expected, said Foster. A change in outlook would reflect a material increase in the probability of a downgrade.

“Circumstances like that could be if public messaging from both sides or from the lead negotiators was indicating that they’re seriously contemplating default, and that they’re comfortable that this is a viable option,” Foster said.

“If we’re getting close to the X-date and there seems to be a change in tone that seems significant, material, and changes the overall probability analysis, … that’s the only basis for a potential change prior to a missed payment,” he said.

The X-date is when the government can no longer pay for all its bills. U.S. Treasury Secretary Janet Yellen on Sunday said June 1 remained a “hard deadline” for raising the federal debt limit.

Moody’s placed the United States’ Aaa rating on review for a possible downgrade in 2011 a few weeks before a debt limit agreement was reached.

Because of the tight time-frame, Foster said he continued to expect a debt ceiling agreement in the summer or at the end of the U.S. fiscal year in September, with lawmakers likely agreeing on a short-term limit suspension meanwhile.

Should the government reach the X-date without an agreement, Moody’s expects principal payments of maturing debt would not be at risk as the Treasury could auction new debt to refund old liabilities while remaining under the existing debt limit.

Interest payments, however, would need to be prioritized to avoid a default. “If that was the scenario, we would expect that to happen,” said Foster.

Should a missed payment occur, Moody’s would downgrade the government by one notch, even in case of a brief default.

“The circumstances of this would be based on something that was avoidable, that was foreseeable, but it happened anyway because of politics,” he said.