As Moody's Warns U.S. Over Debt Ceiling, Tips to Protect Portfolio

A potential default will trigger necessity for changes in portfolio as markets react

Move over, Greece. Make way, Ireland. The U.S. may be coming to join you.

Investors worrying over whether the political standoff in Washington will lead to an actual default might want to begin rebalancing their portfolios, according to Contango Capital Advisors CEO George Feiger. As the drop-dead date approaches in August, markets have already begun to react, causing turmoil that can affect financial holdings in a number of sectors, and Feiger suggests that for investors, the time for rebalancing may have come.

The situation is dire. With the news that Moody's warned the U.S. that the consequences of failing to increase the debt ceiling would mean a downgrade, markets began to show their nervousness. The ratings agency put the country's Aaa rating on review for potential downgrade on Wednesday, saying in a statement that the risk of default was thought "no longer to be de minimis."

While it added, "If the debt limit is raised again and a default avoided, the Aaa rating would likely be confirmed," it also said, "However, the outlook assigned at that time to the government bond rating would very likely be changed to negative at the conclusion of the review unless substantial and credible agreement is achieved on a budget that includes long-term deficit reduction."

The dollar fell as gold set new records for jumpy purchasers looking for something safer than an American greenback. Brian Dolan, chief strategist at Forex.com of Bedminster, N.J., said in the report, "In the short term, the dollar definitely has its problems. This ratings news sent the dollar tumbling. This is really not good."

S&P added to everyone's worries on Thursday, telling members of Congress privately that if the Treasury Department was forced to prioritize payments because of a failure to increase the debt limit, it would also downgrade the country's debt. Some Republicans have said that there would be no consequences to the country's credit rating as long as debt service was maintained above all other obligations.

Feiger, a Ph.D. economist and former professor at Stanford University, suggests a number of strategies to protect portfolios in the event push comes to shove. First, he says, U.S. equities and debt should go. Replace them, he adds, with "precious metals, commodities, safe currencies like the Swiss franc, the Canadian dollar and the Australian dollar." Emerging market equities are also a good option.

"We’ll see these trends take shape soon," says Feiger, "if the debt-ceiling deadline approaches with no sign of a breakthrough. They’ll result from havoc in the bond markets, rising inflation, ratings downgrades and higher interest rates. Consumer confidence will tumble, further slowing the economy and increasing unemployment. Emerging market equities will jump and the dollar will decline."

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