Debt Ceiling Outlook Presentation

In this exclusive webinar presented by Sgroi Financial on May 23rd, Director of Research and Investment Development, Vincent Scarsella hosted JPMorgan’s Connor Fitzgerald to talk all things debt ceiling. In this recap, we will highlight the main talking points from the webinar to give you the high-level themes from the 35-minute discussion.

To start, Vinny asked Connor to briefly go over what the debt ceiling is.  Connor answered with “the cap on the amount of money that the government can borrow in any given year to finance its obligations.” When the government does not match the spending with tax revenue taken in, we end up running a deficit.  An important thing to remember is this will get done, it is not a matter of when, but if.  The US Government has raised or suspended the debt ceiling 102 times since WWII.

Next, they discussed the difference between a government shutdown and a default.  A government shutdown has happened 21 times in history and a default has never happened.  With a shutdown, federal workers do not get paid and are asked to stay home.  This can last for a couple of days or longer and it is far less severe than default, as a default calls into question a “risk-free” asset, which is US Government debt.  If we do default, this questions the validity of this and also means something or someone is not getting paid.  Whether that be interest on government debt or social security or Medicare.  All in all, this assigns potentially a greater risk to owning US Treasuries, and investors would demand more compensation to compensate for this risk.  Because this has never happened before, it is hard to tell what this could mean for both the stock and bond market.

Both Vinny and Connor then got into how Janet Yellen has told Congress the US Government will run out of money in early June (this is commonly known as the “X” Date). This could be extended as if we do get through the first few weeks of June, the Government starts to take in some big payments on June 15^th, so we could make it into July possibly. Connor then discussed different avenues the US Government could take to avoid a default.  Option 1 is to ultimately raise the debt ceiling and this is the most likely scenario.  If this does not get done, there is something that is called “prioritization” which means that the Treasury pays out some things and holds off on others.  Another thing the government can do is invoke the 14^th Amendment. This has never been done before in the history of the United States.  What the 14^th Amendment essentially says is “The validity of the public debt of the United States shall not be questioned.”  This would be subject to legal interpretation however and would probably end up in the Supreme Court.  The last thing that can be done is for the Treasury to issue a trillion-dollar coin.  However, this has been broadly dismissed by central bankers.

The last question was what Connor would say to any investor that wants to move to cash to avoid the debt ceiling drama.  It is hard to take a long-term view of things when short-term things like this are sensationalized.  If you do have a longer-term time horizon, this is important to think about.  Also, going to cash is very hard, as you need to time two things correctly, when to get out and when to get back in.  Second, you have to be certain that we do not get a debt deal done, as if and when things do get sorted out, the market could have a nice rally because an uncertainty has been taken out of the market.  Diversification is key, as it helps to balance your risk, and can also help buffer any volatility we can see.

If anyone has any questions, please do not hesitate to give your advisor here at Sgroi Financial a call.  We hope if you did get to attend the webinar you enjoyed it and we hope you enjoyed this recap as well.  Slides from the event are out as well if you would like to go over those.

Debt Ceiling Outlook Presentation