So we got a deal to raise the debt ceiling, at least until February. But when Fitch warned it might downgrade the U.S. credit rating, it wasn't just talking about the likelihood of the U.S. defaulting on its debt. A Fitch downgrade is not only still possible - it's probable.
U.S. credit rating
- A Debt Ceiling Deal May Not Stop a Fitch Downgrade
- Wrong, Again: S&P Upgrades U.S. Outlook
- Why the Market Yawned at the S&P's U.S. Credit Rating Outlook Upgrade
- Fitch's Warning on U.S. Credit Rating Downgrade
- Why a U.S. Credit Rating Downgrade is On the Way
- Is a U.S. Credit Rating Downgrade a Sure Thing?
- Stock Market Today: U.S. Credit Rating At Risk Again
- Why the U.S. Credit Rating Downgrade Could Cause a Full-Fledged Market Crash
Any time the big ratings agencies give the "All Clear," grab your wallet. Their record of closing the gate after the horses have left the barn is better than their record of getting things right ahead of time.
Now Standard and Poor's has upgraded the U.S. economy. That surely signals trouble -- and it's there for anyone to see. If they want to look.
The mild market reaction was a stark contrast to the sharp downturn back in August 2011, when the Congressional standoff over the raising the federal debt ceiling prompted S&P cut the U.S. credit rating to AA+ from the top-tier AAA.
But while the improved outlook is welcome, a return of the U.S. credit rating to AAA status isn't expected any time soon.
"Generally these things don't happen in just a few years," said Nikola Swann, S&P's sovereign ratings director.
S&P listed the fiscal cliff deal and stronger-than-expected private-sector contributions to economic growth, combined with increased remittances to the government by the government-sponsored enterprises Fannie Mae and Freddie Mac, as reasons for the upgrade to the U.S. credit rating outlook.
David Riley, managing director of the leading credit ratings firm said Tuesday that he is concerned about an impending credit crisis and cautioned that failure to raise the debt ceiling by March 1 will activate a formal review of the nation's coveted AAA rating.
"The pressure on the U.S. rating, if anything, is increasing," Riley said during a conference in London. "We thought the 2011 crisis was a one-off event... if we have a repeat we will place the U.S. rating under review."
Fitch presently maintains a "negative" outlook on the United States, and plans to decide this year if a downgrade is warranted.
That's because even after the fiscal cliff deal, the country's biggest financial problems still remain: the debt ceiling debate, the uncertainty over the delayed sequester cuts and the failure to address the escalating long-term national debt.
And there's little confidence in Congress to reach an effective long-term deficit-reduction agreement by the February deadline.
"It's a fait accompli, actually," Money Morning Chief Investment Strategist Keith Fitz-Gerald said of a credit rating downgrade. "We are the most indebted nation on the face of the planet, spending has ground to a halt, lending is not happening."
The ratings agency said if negotiations on both the fiscal cliff and the debt ceiling extend into 2013, Fitch will review the credit rating which may lead "to a negative rating action."
"Failure to avoid the fiscal cliff...would exacerbate rather than diminish the uncertainty over fiscal policy, and tip the U.S. into an avoidable and unnecessary recession," Fitch wrote in its 2013 global outlook. "That could erode medium-term growth potential and financial stability. In such a scenario, there would be an increased likelihood that the U.S. would lose its AAA status."
Fitch's warning is not merely a threat, and it isn't the only rating downgrade facing the United States.
Moody's Corp. (NYSE: MCO), which also currently has a AAA rating in place and maintains a negative outlook, advised in September that it was prepared to strip the country of its stellar rating if lawmakers don't come up with a long-term debt reduction plan.
Standard & Poor's has been even less lenient.
It trimmed its U.S. credit rating one notch in 2011 to AA+, alluding to the political stalemates that thwarted an agreement on raising the debt ceiling. The downgrade, a first in U.S. history, was harshly criticized, and stunned Washington.
S&P lectured earlier this year that an additional downgrade was likely sans a debt deal.
Joining S&P in stripping the U.S. of its desirable credit rating was Egan Jones, a much smaller but still well-known rival among the big three credit rating agencies. This September, it slashed its rating to AA- from AA.
A U.S. credit rating downgrade is just one important consideration in the debt ceiling debate.
The major headlines in the stock market today (Tuesday) include Moody's warning it might lower America's AAA rating, the trade deficit and a financial shakeup:
- U.S. Credit Rating at Risk- In a statement released Monday, ratings agency Moody's said the United States is in danger of losing its AAA credit rating if Congress cannot come up with a solid plan to lower the debt-to-GDP ratio. "If those negotiations lead to specific policies that produce a stabilization and then downward trend in the ratio of federal debt to GDP over the medium term, the rating will likely be affirmed and the outlook returned to stable," Moody's said in an e-mailed statement. "If those negotiations fail to produce such policies, however, Moody's would expect to lower the rating, probably to Aa1."
Currently Moody's rates the U.S. AAA credit rating with a negative outlook. Standard & Poor's last year downgraded the U.S. to AA+ which is the equivalent to Moody's Aa1. Both agencies cite the political bickering in Congress and inability to deal with fiscal situations as the main reasons for the downgrades. S&P has mentioned that those risks could lead to another downgrade. When President Obama updated his federal budget in August the debt-to-GDP ratio was projected to be 75% by 2022, currently it is just over 1.04%. If lawmakers decide to go off the fiscal cliff as a debt reduction measure Moody's said it will maintain its current rating and negative outlook and then wait to see results of the fiscal cliff before deciding to return to a stable outlook.
But what the ratings agency doesn't realize is that it's playing with fire. Because what we've seen over the past few weeks has been a massive sell-off in the stock market that suggests Wall Street's biggest players are scrambling to bolster their net capital positions.
And it's entirely possible that this already-stiff correction will snowball into a full-blown market crash.
For months, years even, many of these firms have leveraged their Treasury securities to borrow more money to buy more government bonds and other - more speculative - investments. But since Treasury bills, notes, and bonds can no longer be considered "risk free," institutions are being forced to recalculate their net capital positions to accommodate the added risk.
In industry parlance, this is called a "haircut," and it's exactly what Money Morning Contributing Editor Shah Gilani warned about back in July.
"After studying everything that could happen due to a downgrade of the United States' top-tier AAA credit rating, and the potential default on its debt, we found a scenario that would result in forced asset sales that are so widespread that global stock-and-bond markets would plunge -- and economies around the world would crash," said Gilani.
Gilani now says that we could be seeing the beginning of a "global margin call" that will continue to ravish global markets.
The Dow Jones Industrial Average plunged more than 631 points, or 5.52%, yesterday (Monday), after falling 6% last week.
"The sell-off itself got uglier later in the day as margin calls likely triggered more liquidations when there was no bounce after the opening downdraft," Gilani said in an interview. "This is very worrisome. If we don't get a bounce Tuesday morning, but instead see a bad opening, margin calls will ramp up and the effect of rolling collateral and margin calls could turn this correction into a full-fledged crash."