Debt deal could boost unloved corners of the US stock market

By Laura Matthews and Chibuike Oguh

(Reuters) – Global investors are figuring out how a tentative deal to raise the US debt ceiling could go through the markets as lawmakers face a tough road to pass the deal through Congress before the June 5 deadline.

A deal to lift the $31.4 trillion debt limit announced by the White House and House House Republicans would prevent a catastrophic U.S. default and boost overall risk appetite, while also providing support in would be the back of some sectors that have lagged in this year’s tech-led rally. , such as cyclical stocks and small caps, investors said.

But some are wary that the proposed cuts could weigh on US growth. At the same time, a negotiation process that narrowly avoided bankruptcy threatens to undermine the US’s standing with credit rating agencies.

While the White House debt ceiling deal is great news, the U.S. government still has a cash flow problem and time is of the essence to finalize the deals, said Bob Stark, global head of market strategy at Kyriba, a treasury management and financial management. The debt ceiling agreement is just the first step in rescuing the government from the brink of illiquidity.

The deal suspends the debt ceiling until January 2025 in exchange for spending caps and government program cuts. Narrow margins in the House and Senate mean moderates on both sides will have to support the bill.

U.S. Treasury Secretary Janet Yellen set a deadline on Friday for raising the federal debt limit, saying the government would default if Congress doesn’t raise the debt ceiling by June 5.

As the $24.3 trillion US Treasury market underpins the global financial system, a default — or even a close call — could cause massive volatility in global markets.

Uncertainty regularly weighed on stocks over the past week, though most investors and analysts said they had expected an 11-hour deal. Optimism that a deal on the debt ceiling was near and hefty gains in AI-related stocks helped the S&P 500 close on Friday at its highest level since August 2022. It is up 9.5% year to date.

Among market sectors that could benefit from a deal are defense stocks, which underperformed during the negotiations, as well as cyclical sectors of the market and energy stocks, said Quincy Krosby, chief global strategist at LPL Financial.

The hope is that the approval of this preliminary deal will help support the broader market and not just the handful of big tech names that have kept the market well in positive territory, she said.

Stuart Kaiser, head of equity trading strategy at Citi, said a deal could have a modest positive impact on index-level stock markets but could give greater momentum to sectors that underperformed this year, including stocks from companies with weaker balance sheets and small companies. cap stocks.

But market participants are also wary of the implications of proposed spending caps for specific sectors and for the broader US economy.

What investors will focus on now is the cost of the cuts to the health of the US economy, Stark said. How much impact will these cuts have on GDP and economic growth?

Meanwhile, the crisis in Washington could also prompt rating agencies to cut US debt. Credit rating agency Fitch put the United States on credit monitoring late Wednesday for a possible downgrade, while DBRS Morningstar scrutinized US credit ratings on Thursday with “negative implications”.

S&P Global Ratings stripped the United States of its coveted top score after a debt ceiling confrontation in 2011, a few days after a last-minute deal the agency said at the time failed to stabilize “medium-term debt dynamics”.

The downgrade contributed to a fall in US equities, causing the S&P 500 to lose some 17% between the end of July and mid-August 2011.

S&P Global Ratings, Fitch and Moody’s did not immediately respond to a Reuters request for comment.

Investors are also bracing for potential volatility in US Treasuries as the Treasury is expected to quickly replenish its empty coffers with bond issues once the debt ceiling is raised, potentially sucking hundreds of billions of dollars of cash out of the market.

“We will get the optimism that a deal has been done and a real crisis has been averted, along with the feared liquidity loss,” said Damien Boey, macro strategist at BarrenJoey in Sydney, Australia. volatility will increase, and this will cause banks and non-AI growth stocks to lag.”

(Reporting by Laura Matthews, Chibuike Oguh, Tom Westbrook, Saqib Iqbal Ahmed, and David Randall; editing by Ira Iosebashvili, Michelle Price, and Mark Porter)

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