Government shutdown effect on LT bonds

[Quasimodo]

What do Permanent Portfolio investors think would happen to the portfolio if the government shutdown resulted in a downgrade, or God forbid, some sort of default, of treasury bonds?

John

[Pointedstick]

What do Permanent Portfolio investors think would happen to the portfolio if the government shutdown resulted in a downgrade

They would probably go up, just like they did last time.

or God forbid, some sort of default, of treasury bonds?

The entire banking system would freeze up and it could cause a major panic. Stocks would probably crash, bonds would too, and some might go to zero. Gold would skyrocket.

At least, those are my predictions.

[notsheigetz]

What do Permanent Portfolio investors think would happen to the portfolio if the government shutdown resulted in a downgrade, or God forbid, some sort of default, of treasury bonds?
John

As PS pointed out the last downgrade seemed to positively effect the value of LT's. The reason is a mystery to me but true nonetheless. As for what effect a further downgrade would have, I wouldn't count on history repeating itself but you never know.

As for actually defaulting on bonds, I don't see any point in speculating about what would happen because it is inconceivable to me that they would do that. Despite a website I just visited claiming this will be a reality in the next few months according to various "insiders" it's not going to happen. I'm not saying it can't happen someday but I don't believe we are any where close. If you're really worried about it, that web-site was offering a free out-of-circulation coin for joining their newsletter for $69.95 (a $99.99 value). They said the coin was predicted to be worth $5000 when the default occurred and I'll bet they have a lot more to sell you after you get the $69.95 free one. (My question would be how do you determine the value of a coin in U.S. dollars after the dollar has collapsed and I could say the same thing about the value of what's left of the PP).

I'm modifying this post to include the link I referenced above - for pure entertainment value.

http://pro.wsdinsider.com/WCXFEDEXT/PWCXPA27/?h=true

[Kshartle]

What do Permanent Portfolio investors think would happen to the portfolio if the government shutdown resulted in a downgrade, or God forbid, some sort of default, of treasury bonds?
John

As PS pointed out the last downgrade seemed to positively effect the value of LT's. The reason is a mystery to me but true nonetheless.

This is confusing correlation And causation. The downgrade of LTs and subsequent price rise is not sufficient to prove that downgrades of LTs cause the price to rise. First off the idea is ludacris. A downgrade implies lower credit worthiness. We know that credit worthiness is something of value so people pay more for it etc. so we shouldn't need to go very far to see this is false.

You guys get this right?

Prices of bonds can go up after bonds are downgraded, but will never go up because of downgrades. Downgrades cannot have a positive influence on the price because they are a negative to the price. Buyers of bonds prefer credit worthiness to non-credit worthiness. People will trade more for something they value higher than they won't value.

A downgrade can either be neutral for the price if no one cares about it or negative if people do care about it. It can't be positive unless you believe some bond buyers see less credit worthiness as desirable.  If anyone thinks that exists please make your case it will be easily disproven. 

[Pointedstick]

This is confusing correlation And causation. The downgrade of LTs and subsequent price rise is not sufficient to prove that downgrades of LTs cause the price to rise. First off the idea is ludacris. A downgrade implies lower credit worthiness. We know that credit worthiness is something of value so people pay more for it etc. so we shouldn't need to go very far to see this is false.

You guys get this right?

An alternative hypothesis:

The ratings agencies are next to worthless and the bond market understands that their ability to rate the creditworthiness of sovereign debt denominated in currency controlled by the borrower is next to nil, and acts accordingly.

This alternative hypothesis allows for me and other people here to not be the economic illiterates that your argument implies.

[Xan]

This is confusing correlation And causation. The downgrade of LTs and subsequent price rise is not sufficient to prove that downgrades of LTs cause the price to rise. First off the idea is ludacris. A downgrade implies lower credit worthiness. We know that credit worthiness is something of value so people pay more for it etc. so we shouldn't need to go very far to see this is false.

You guys get this right?

An alternative hypothesis:

The ratings agencies are next to worthless and the bond market understands that their ability to rate the creditworthiness of sovereign debt denominated in currency controlled by the borrower is next to nil, and acts accordingly.

This alternative hypothesis allows for me and other people here to not be the economic illiterates that your argument implies.

That ability is nil, and then the turmoil of a budget fight and a downgrade causes a flight to safety.  Into Treasuries!

[frommi]

In case of default, the treasury bonds are going to be worthless. But why should this happen, every politician will vote against such stupid outcoming.

In every other case, the value of longterm bonds is only determined by long term inflation expectation. Not even the FED can manipulate the longterm interest rates. (In every attempt to do so they reached the opposite reaction), so a rating downgrade in itself will have no impact.

[Kshartle]

This is confusing correlation And causation. The downgrade of LTs and subsequent price rise is not sufficient to prove that downgrades of LTs cause the price to rise. First off the idea is ludacris. A downgrade implies lower credit worthiness. We know that credit worthiness is something of value so people pay more for it etc. so we shouldn't need to go very far to see this is false.

You guys get this right?

An alternative hypothesis:

The ratings agencies are next to worthless and the bond market understands that their ability to rate the creditworthiness of sovereign debt denominated in currency controlled by the borrower is next to nil, and acts accordingly.

This alternative hypothesis allows for me and other people here to not be the economic illiterates that your argument implies.

Nost said "As PS pointed out the last downgrade seemed to positively effect the value of LT's."

I think he was implying you believe that or at least pointed it out.

I agree they are next to worthless. The downgrades are made by the market ahead of time and you probably get a boost when they downgrade something as a "sell the rumor, buy the fact" or vice-versa.

[Pointedstick]

In case of default, the treasury bonds are going to be worthless. But why should this happen, every politician will vote against such stupid outcoming.

Yes. Like I have said, it would basically be an act of suicide. If they vote to do default on outstanding debt, it will because they want to, not because they have to.

[Kshartle]

In case of default, the treasury bonds are going to be worthless. But why should this happen, every politician will vote against such stupid outcoming.

Yes. Like I have said, it would basically be an act of suicide. If they vote to do default on outstanding debt, it will because they want to, not because they have to.

What if they just default on the Chinese and Japanese? They can't vote.

[Pointedstick]

What if they just default on the Chinese and Japanese? They can't vote.

Why would they want to do that? Such events have precipitated wars in the past! I'll grant you that politicians are dumb, and the current crop seems very dumb, but I don't think they're that dumb. At least I hope not.

[notsheigetz]

This is confusing correlation And causation. The downgrade of LTs and subsequent price rise is not sufficient to prove that downgrades of LTs cause the price to rise. First off the idea is ludacris. A downgrade implies lower credit worthiness. We know that credit worthiness is something of value so people pay more for it etc. so we shouldn't need to go very far to see this is false.

You guys get this right?

Yes, I get that correlation does not equal causation and probably should not have implied that it did in this case. As I recall it, sovereign debt, mostly in Europe, was a big issue at the time. I think it is likely that the U.S. downgrade was a major factor in the total equation but whatever factors were involved the equation ended up being safety=U.S. debt despite the downgrade.

[Kshartle]

What if they just default on the Chinese and Japanese? They can't vote.

Why would they want to do that? Such events have precipitated wars in the past! I'll grant you that politicians are dumb, and the current crop seems very dumb, but I don't think they're that dumb. At least I hope not.

If the alternative is intolerable inflation maybe.

[Kshartle]

This is confusing correlation And causation. The downgrade of LTs and subsequent price rise is not sufficient to prove that downgrades of LTs cause the price to rise. First off the idea is ludacris. A downgrade implies lower credit worthiness. We know that credit worthiness is something of value so people pay more for it etc. so we shouldn't need to go very far to see this is false.

You guys get this right?

Yes, I get that correlation does not equal causation and probably should not have implied that it did in this case. As I recall it, sovereign debt, mostly in Europe, was a big issue at the time. I think it is likely that the U.S. downgrade was a major factor in the total equation but whatever factors were involved the equation ended up being safety=U.S. debt despite the downgrade.

Yeah that's exactly what happened I think.

[melveyr]

Treasuries rising after their downgrade is actually an extremely simple and logical response. Smart money knows that Treasuries are risk free in nominal terms and prices them primarily off of inflation and growth expectations. When Treasuries got downgraded it had no impact on their credit risk (because they don't have any), but the downgrade placed political pressure on politicians to cut spending. Cutting government spending places downward pressure on growth and inflation making Treasuries a compelling buy. Bond traders aren't dummies.

[moda0306]

Treasuries rising after their downgrade is actually an extremely simple and logical response. Smart money knows that Treasuries are risk free in nominal terms and prices them primarily off of inflation and growth expectations. When Treasuries got downgraded it had no impact on their credit risk (because they don't have any), but the downgrade placed political pressure on politicians to cut spending. Cutting government spending places downward pressure on growth and inflation making Treasuries a compelling buy. Bond traders aren't dummies.

Melveyr,

You always manage to say exactly what I want to say, but about twice as articulately.

[Lowe]

A limited default might be a good thing for us.  Then equity tanks, and gold rises.  Balance out of gold, and buy undervalued equity. 

Maybe balance into Treasurys too, but maybe just do nothing with them.  They should bounce back once the missed payments are made.

[murphy_p_t]

In case of default, the treasury bonds are going to be worthless. But why should this happen, every politician will vote against such stupid outcoming.

Yes. Like I have said, it would basically be an act of suicide. If they vote to do default on outstanding debt, it will because they want to, not because they have to.

Do they have to vote affirmatively to default....I thought we default if action is not taken...its now the *default* outcome?

[murphy_p_t]

In case of default, the treasury bonds are going to be worthless. But why should this happen, every politician will vote against such stupid outcoming.

Yes. Like I have said, it would basically be an act of suicide. If they vote to do default on outstanding debt, it will because they want to, not because they have to.

The regime seems to have a Kamikaze streak currently...closing national parks, viewing of Mt Rushmore, WWII memorials....things which require more spending to close to the public than to leave alone....talking down markets...this seems like a jihadist attack by the regime.

[systemskeptic]

Smart money knows that Treasuries are risk free in nominal terms and prices them primarily off of inflation and growth expectations.

Melveyr,

Still think Treasuries are risk free in nominal terms?

Fidelity seems to disagree with you:
http://abcnews.go.com/Business/wireStor ... t-20520740

"The nation's largest manager of money market mutual funds said Wednesday that it no longer holds any U.S. government debt that comes due around the time the nation could hit its borrowing limit."

[Libertarian666]

Smart money knows that Treasuries are risk free in nominal terms and prices them primarily off of inflation and growth expectations.

Melveyr,

Still think Treasuries are risk free in nominal terms?

Fidelity seems to disagree with you:
http://abcnews.go.com/Business/wireStor ... t-20520740

"The nation's largest manager of money market mutual funds said Wednesday that it no longer holds any U.S. government debt that comes due around the time the nation could hit its borrowing limit."

They obviously think that it will be over shortly, though, or they would just dump all their government debt.
We'll see.

[iwealth]

I found this interesting regarding the shutdown/debt ceiling effect:

Moody's offers different view on debt limit

One of the nation’s top credit-rating agencies says that the U.S. Treasury Department is likely to continue paying interest on the government’s debt even if Congress fails to lift the limit on borrowing next week, preserving the nation’s sterling AAA credit rating.

In a memo being circulated on Capitol Hill Wednesday, Moody’s Investors Service offers “answers to frequently asked questions”? about the government shutdown, now in its second week, and the federal debt limit. President Obama has said that, unless Congress acts to raise the $16.7 trillion limit by next Thursday, the nation will be at risk of default.

Not so, Moody’s says in the memo dated Oct. 7.

”? We believe the government would continue to pay interest and principal on its debt even in the event that the debt limit is not raised, leaving its creditworthiness intact,”? the memo says. “The debt limit restricts government expenditures to the amount of its incoming revenues; it does not prohibit the government from servicing its debt. There is no direct connection between the debt limit (actually the exhaustion of the Treasury’s extraordinary measures to raise funds) and a default.

The memo offers a starkly different view of the consequences of congressional inaction on the debt limit than is held by the White House, many policymakers and other financial analysts. During a press conference at the White House Tuesday, Obama said missing the Oct. 17 deadline would invite “economic chaos.”?

The Moody’s memo goes on to argue that the situation is actually much less serious than in 2011, when the nation last faced a pitched battle over the debt limit.

“The budget deficit was considerably larger in 2011 than it is currently, so the magnitude of the necessary spending cuts needed after 17 October is lower now than it was then,”? the memo says.

Treasury Department officials did not immediately respond to requests for comment.