My base case for the debt ceiling drama is still that a debt default will be avoided. This includes defaulting on either interest payments or principal payments (the bigger risk is principal payments). With that said, however, the inability of those in power to thus far completely put to rest the risk of a debt default will force some investors to take certain actions to protect their assets.
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A debt default would most likely cause a severe reaction in the financial markets. As we get closer to the debt ceiling deadline, some investors may decide to sell certain assets, while others might purchase put options to protect against downside risks. Those will be decisions that each of us will have to make for ourselves based on our own specific investment objectives. Two things, however, that I think every investor should strongly consider doing are the following:
Investors did not force elected officials to wait until the last days to deal with the debt ceiling. But those in power, by waiting so long, are forcing investors to react to the uncertainty. Some people may consider it unnecessary to take the simple steps of your moving money out of money markets that hold U.S. government debt and making sure you don’t have purchases settling after October 16 (until such time as the possibility of a U.S. government debt default is eliminated). I view it as prudent planning, acting rationally, and responsibly managing portfolio risk. Even though a U.S. government debt default is still not my base case, with each passing day, the possibility of it occurring becomes more real. The two steps mentioned above take so little effort to do and so little effort to undo that they just make sense.
On a closing note, I would like to direct your attention to Sec. 138 of H.J. Res. 59 (Continuing Appropriations Resolution, 2014). One thing you perhaps have not heard in the media regarding the continuing resolution is that Sec. 138 exempts the principal and interest of U.S. government debt from the debt ceiling. As you think about the strategic decision making that is occurring in Washington, D.C. regarding the government shutdown and debt ceiling, keep Sec. 138 of H.J. Res. 59 in mind. A U.S. government debt default can be taken off the table without having to raise the debt ceiling. Whether that happens is a different story. But it can happen.
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