Fitch Puts U.S. Debt on Watch for Downgrade
October 16, 2013
The Wall Street Journal
Fitch Ratings warned it could strip the U.S. of its top credit rating, in the latest sign that the brinkmanship in Washington is eroding investors' confidence in U.S. institutions.
Fitch placed its triple-A rating on the U.S. on "rating watch negative," saying a downgrade is possible by the end of the first quarter next year. Even if Congress reaches a short-term deal to avoid defaulting on U.S. debt, Fitch said the budget impasse has undermined confidence in the effectiveness of the U.S. government and economic policy.
The U.S. Treasury said the Fitch move raises the urgency for action on the debt ceiling, adding that Congress should "remove the threat of default hanging over the economy."
S&P 500 futures turned briefly negative after Fitch's move, then moved up. The dollar fell slightly against the euro and the yen, and gold inched up but then quickly shed the gains. Short-term Treasury securities sold off Tuesday, with bills maturing on Nov. 7 yielding 0.380%, the highest since October 2008.
Fitch is the only one of the three biggest credit-rating firms that has indicated a downgrade is on the table. Standard & Poor's Ratings Services, which stripped the U.S. of its triple-A rating in 2011, doesn't expect to cut again. Moody's Investors Service also has said a downgrade is unlikely.
Rating companies are treading carefully when it comes to the U.S. credit rating, even as lawmakers struggle to form a deal to raise the debt ceiling ahead of Thursday, when the Treasury has said it would run out of emergency borrowing capacity.
In summer 2011, Moody's used the word "downgrade" more than 50 times in its reports on the U.S. credit rating, as lawmakers negotiated up to the last minute to raise Treasury's borrowing limit. This year's Moody's tally: one.
Moody's said last month that it views the fiscal impasse in Washington as less of a threat to the U.S. rating than the 2011 debt fight because the budget deficit is smaller than two years ago. S&P says the political deadlock is outweighed by strengths that range from the diversified U.S. economy to the Federal Reserve's flexible monetary policy.
The three rating firms don't expect the U.S. to miss a debt payment and go into default.
Meanwhile, many investors say they are happy to hold U.S. debt as long as Congress reaches an agreement to avoid a default. Whether the government is rated triple-A or double-A-plus is of secondary importance, they say. Although investors have sold short-term debt, which are the investments most at risk in the event of a default, prices of long-term Treasury bonds have held steady.
"I don't really look at what the ratings agencies do because they haven't been good predictors of market moves," said Bob Gelfond, chief executive of New York-based hedge fund MQS Management, which oversees $1 billion, according to the company's most recent Securities and Exchange Commission filing. "Nothing they say will cause us to change our analysis."
Only a minority of funds are still limited to buying solely triple-A-rated securities, investors say. As the downgrades of recent years shrank the pool of highly rated sovereign debt, funds increasingly loosened their investment guidelines to give themselves more buying flexibility.
If the debt-ceiling deadline passes without a deal, the U.S. would risk missing interest payments within days. Even a one-notch downgrade by Fitch would send ripples through debt markets, potentially altering ratings for high-quality corporate bonds or municipal debt issued by states that supplement their budgets with federal funds.
But those risks haven't sent investors fleeing the $11.6 trillion Treasury market. U.S. debt has maintained its appeal as a haven and portfolio staple despite years of slow economic growth, rising debt levels and escalating spending fights. Investors say even with its reputation—and credit rating—diminished, U.S. debt remains the most liquid and, by many measures, safest to hold. And since the financial crisis, other large borrowers, such as the U.K. and Japan, share many of the same problems.
"How investors view the country and its credit quality is much more of an evolving framework now than it was in the past," said Robert Tipp, chief investment strategist at Prudential Fixed Income, which manages $400 billion. He added: "Whether another ratings agency downgrades the U.S. is not going to have that much impact in terms of trading levels. What matters is the way we get through this debt ceiling debate."
Rating firms have come under increasing political pressure for their ratings since the financial crisis. After the S&P downgrade in 2011, lawmakers and U.S. regulators called for restricting the influence of rating companies in financial markets. Separately, the Justice Department is suing S&P, a unit of McGraw Hill Financial Inc., MHFI +1.18% for $5 billion for allegedly misrepresenting its ratings process before the financial crisis. S&P has called the lawsuit "retaliation" for the U.S. downgrade, a claim that the Justice Department says is "preposterous."
"There's understandably caution in light of the significant lawsuit against S&P," said Jeffrey Manns, an associate professor at George Washington University Law School. "The ratings agencies saw the political fallout from S&P's downgrade in 2011, so they may choose their words more carefully this time."
Moody's, the credit-rating business of Moody's Corp., has a triple-A rating on the U.S. with a stable outlook, meaning a downgrade is unlikely "over the medium term." Moody's declined to comment beyond its reports.
Fitch, jointly owned by Hearst Corp. and Paris-based Fimalac SA, said in a report last week that even after the U.S. exits default, it would be unlikely to return to a triple-A rating "in the short to medium term."
S&P says there is a less than 1-in-3 chance of another downgrade in the next two years. It has the U.S. one notch below its counterparts at double-A-plus with a stable outlook.
"The political brinkmanship is the primary reason our rating is no longer triple-A, so that's already incorporated into the rating," said Marie Cavanaugh, a managing director at S&P.