U.S. Debt Default a Buying Opportunity for Bond Investors?
I wasn’t going to talk about the government impasse and the upcoming debt ceiling deadline today, but it’s really the only thing people seem to want to discuss.
Even with the third-quarter earnings season flowing in, the headlines continue to want to key in the mess in Congress. Hey, I don’t blame them; America’s future is at stake in this critical showdown, which is why both parties want to make the best debt ceiling deal possible.
Could you imagine lending a substantial sum of money to a friend, and then you start hearing talk that your friend may not be able to pay you back?
Well, there’s some uneasiness developing in the world financial markets, as China and Japan are wondering—sometimes out loud—whether their more than $2.0 trillion in U.S. Treasuries are at risk. China held about $1.28 trillion in U.S. Treasury bonds as of July 31, according to the Department of the Treasury. Japan holds about $1.14 trillion in U.S. debt.
The problem is that unless the U.S. can resolve its debt ceiling crisis and move ahead; I expect there will be some hesitancy from the Asian powerhouses when deciding whether or not to buy U.S. bonds in the future; and this could have an impact on yields and what the Treasury has to pay. Without strong buying from China and/or Japan, the U.S. Treasury could be in trouble, since there would simply be no money left in the coffers. Luckily for now, investing in U.S. bonds for foreign reserves is still a better option than the alternatives, such as the euro or gold, but that could change.
The soap opera in Congress is not only about America; it’s also about the country’s performance on the global stage, as countries around the world want to feel confident that the U.S. can manage its own finances.
However, the problem comes down to the country’s mountain of debt and its seeming inability to generate a surplus, which is why we had the fiscal cliff and budgetary cuts and why we’re now approaching the debt ceiling issue.
Yet it will take years—if not decades—for the national debt to start declining, which is why the talks on the debt ceiling will be critical. Something must be done now regarding the debt ceiling.
President Obama has asked for a temporary rise in the debt ceiling limit to avoid a potential default. This would work, but the issue needs to be resolved soon, not a year down the road. As I have said, the country needs a strict austerity program to begin shaving down its debt.
A default from the debt ceiling could kill the confidence of investors, and this would force the Treasury to increase the yield on its instruments to attract buyers.
For bond investors, a short-term default and expected higher-yielding government bonds could also provide a buying opportunity for those who are willing to speculate, as I doubt the U.S. will ever declare bankruptcy.
This article U.S. Debt Default a Buying Opportunity for Bond Investors? was originally published at Investment Contrarians
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