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U.S. Relief rally aside, don’t take eyes off D.C.

NEW YORK — The stock market wrapped up a volatile week with its biggest two-day rally since the start of the year on hopes divided lawmakers are close to striking a deal that will enable the U.S. to pay all of its bills on time and avoid a confidence-shattering default.
The Dow Jones industrial average rose 111 points, or 0.7%, to 15,237 on Friday, a day after shooting up 323 points for its biggest one-day point gain since December 2011. The Dow's two-day gain of 434 points, was its biggest back-to-back point jump since the so-called "fiscal cliff" was narrowly averted late last year, resulting in a two-day jump of nearly 475 points on the last trading day of 2012 and the first trading session of 2013.
But investors shouldn't get too overconfident until they see the details of the final deal hammered out between Republicans and Democrats, who are expected to keep talking over the weekend, Wall Street strategists say. The latest Republican proposal would only raise the debt ceiling by enough to last six weeks, nor would it end the 11-day-old government shutdown.
There's no denying that the perceived thaw in the icy relationship between the nation's two political parties suggests they are moving closer to a deal to raise the debt ceiling by the Oct. 17 deadline and avoid the first-ever U.S. default. But it's also clear the deal currently under discussion comes with its fair share of caveats.
For one, a temporary extension of the debt ceiling will simply push off the "crunch date," or new deadline, until later this year, creating yet another layer of uncertainty. What's more, not reopening the government soon also poses additional risks to the economy, which could further damage consumer confidence and corporate earnings. There's always a chance a deal doesn't get done.
All three of those scenarios will cause market volatility to return.
While the odds favor this current political crisis "winding down," a six-week debt-ceiling extension "means we might have to do this all over again in November," says Jim Paulsen, chief investment strategist at Wells Capital Management.
Investors expecting the Dow to jump another 300 points when a deal is finalized might be expecting too much, adds Alec Young, global equity strategist at S&P Capital IQ.
The stock market, he says, has already priced in a best-case scenario, including an extension of the debt ceiling by the Thursday deadline and an end to the shutdown.
"In the short term, the stock market has probably priced in more than politicians are likely to deliver," Young says.
If lawmakers extend the debt ceiling but don't reopen the government and the shutdown drags on for weeks, there is a risk that the economic fallout will take a bigger bite out of growth.
"Just because the market has enjoyed a relief rally doesn't mean we can take our eyes off Washington," Young says.

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