| NEW YORK
NEW YORK Dec 21 If the United States sails over
the fiscal cliff in less than two weeks, it probably will not
mean disaster for the stock market, investors said on Friday,
but the margin for error is getting dangerously thin.
At heart are fears over how long the U.S. economy, the
world's largest, can hold up under the brunt of higher taxes and
big spending cuts that would be triggered by the fiscal cliff.
If Washington's inability to reach a deficit-reduction deal
persists into late January or provokes a second credit ratings
agency to strip the United States of its top triple-A rating,
all bets may be off.
"Clearly, if this thing drags on with no deal, eventually
markets are going to start to take it on the chin," said Sandy
Lincoln, chief market strategist at BMO Asset Management in
Chicago, which oversees $38 billion.
Stock markets fell on Friday after a Republican proposal
that would have prevented tax increases on all but those earning
more than $1 million unraveled amid a conservative backlash.
Though President Barack Obama had vowed to veto the bill,
opposition from Republicans stoked doubt about the ability of
House of Representatives Speaker John Boehner to win support
within his party. That suggested the two sides were too far
apart to reach a deal to forestall the $600 billion in automatic
tax hikes and spending cuts before they are set to begin to take
effect in January.
"The fact they couldn't even get the Republicans in Congress
to sign on for that is disturbing. If we get into late January,
early February and we are still in the soup, then the odds of
going into a recession go up, and I just can't believe anybody
wants that," said Jeffrey Saut, chief investment strategist at
Raymond Jones Financial.
If the new year dawns without a deal, Jack Ablin, chief
investment officer at BMO Private Bank, said he would view "any
incremental market sell-off as a buying opportunity."
But if things remain in limbo in February, "that is going to
leave a mark on the economy," he said. "The way I'd characterize
it is that we're sitting in this pot of water and on Jan. 1,
Congress turns on the flame underneath. It's comfortable at
first, but eventually it's going to start to hurt."
Americans would start to feel the effects in their wallets.
As of 2013, payroll taxes would revert to 6.2 percent of
Americans' paychecks, up from the 4.2 percent level put in place
during the economic downturn.
Higher income tax rates would also start to hit, though that
could be delayed by officials in Washington. Still, Americans
would start to feel a pinch on their paychecks, which could hurt
spending next year. Some investors believe holiday sales are
already being affected.
Another risk, said BNY Mellon currency strategist Michael
Woolfolk, would be if a second ratings agency cuts the United
States' AAA rating, a move that Standard & Poor's made after a
similar budget standoff in 2011.
Fitch Ratings said this week it would be more likely to
downgrade the United States if the economy goes over the cliff.
"Markets would take that very badly," Woolfolk said. "Stocks
sold off by 10 percent after the S&P downgrade in 2011, and I'd
expect something at least as severe" if Fitch were to act.
LAST-MINUTE DEAL STILL POSSIBLE
Of course, lawmakers still have 10 days left in 2012 to
strike a deal, and some are confident they will return to
Capitol Hill after Christmas and do just that.
"So far, the market has been handling setbacks in talks very
well, and with a bit of time left on the clock, this time will
be no different," said Jim Barnes, senior fixed income manager
at National Penn Investors Trust Co.
For some, the political disarray among Congressional
Republicans that sent Boehner's "Plan B" to defeat late on
Thursday only increased those hopes.
"Given that Reid called Plan B 'dead on arrival' and Obama
said he would veto it, the non-passage of this bill due to lack
of Republican support makes it more likely, not less likely,
that compromise will be reached," said Jeffrey Gundlach, chief
executive officer and chief investment officer of DoubleLine
Capital, which oversees more than $50 billion.
Harry Reid is the Democratic Senate leader.
The "continued positioning and posturing" isn't a huge
concern to investors, Woolfolk said. "Neither side has incentive
to compromise too much, too soon. They can extract concessions
by delaying. So I would not be surprised if it takes until
minutes before midnight on Dec. 31."
All the back-and-forth, however, may keep the stock market a
bit more volatile than it would normally be so late in the year.
The benchmark S&P 500 has gained or lost more than 1
percent in three of the past five trading sessions, while the
CBOE Volatility Index has climbed more than 20 percent
over the past three days.
In a sign of the type of volatility investors may be
confronted with, S&P 500 E-Mini futures fell as much as 3.6
percent in after-hours trading Thursday evening, with a 15-point
drop in less than one second that resulted in a brief halt in
"While last night's mini-crash is a rare event, I do expect
bigger moves than we've seen in the past year," said Enis Taner,
global macro editor at RiskReversal.com, an options trading firm
based in New York.