Look Who’s Profiting From the Debt Ceiling Crisis

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POLITICS JULY 30, 2011

Look Who’s Profiting From the Debt Ceiling Crisis

The consequences of the current impasse over the debt ceiling are highly uncertain. What is certain is that, whether it’s a mild increase in interest rates that leads to an uptick in unemployment or an economic calamity caused by the debt default, the fallout from a failure to resolve the crisis is sure to be negative. But is anyone benefiting from the crisis? Turns out, yes. Whether they’ve invested in gold (we’re looking at you, Tea Partiers), the Swiss franc, or insurance that pays off in case of a downgrade or default on the America’s debt, some people are profiting from the country’s troubles. While many just happened to invest in the right things weeks or months ago, it’s possible others are jumping into the game now, hoping to reap cash as the country’s economy teeters.

Gold. Glenn Beck isn’t the only one who has been investing in gold recently; investors all over the world have been doing it. George Gero, vice president of global futures at RBC Capital, says gold “has become another currency.” Gold has been increasing in value against the dollar because portfolio managers see it as a way to retain purchasing power in response to a downturn in the U.S. dollar. Gero describes gold as having a “fear premium,” meaning investors turn to gold because of concerns about the U.S. economy and American debt in light of a possible default or downgrade. Unsurprisingly, then, amid the debt ceiling debacle this week, gold futures hit a record high of $1,631.20.

Currencies. If you had a lot of Swiss francs about a month ago, the endless wrangling over the debt ceiling has been a boon. According to Shaun Osborne, the chief foreign exchange strategist at TD Securities, the Swiss franc has traditionally been a safe haven when larger currency areas, like the United States or the Eurozone, are in trouble. Switzerland, because of its good economic management, external trade surplus, and low deficits, “typically does well in times of uncertainty.” So it’s not shock that the Financial Times reported Thursday that the Swiss franc hit a record high this week against the dollar. (The greenback “plumbed multi-decade lows” against the Australian and New Zealand dollars, too.) Osbourne describes the movement in the last week as “quite acute” and attributable to “challenges in the U.S. and Europe.”

Credit Default Swaps. Perhaps the most intriguing movement in the market has been in credit default swaps on U.S. government debt. A CDS functions like insurance against a default or “credit event” for a certain security. In the case of American bonds, a missed interest payment could trigger payouts for investors who purchased a CDS. Naturally, then, this market has picked up as a downgrade or default has become more likely: According to Reuters, “The cost of insuring U.S. debt against default rose to its highest level in over two years on Friday.” What’s most interesting, though, is that the cost to insure one-year American debt is now higher than the cost of insuring five-year debt for the first time ever. (Normally, long-term debt is more expensive to insure than short-term debt.) Otis Casey, the director of credit research at Markit, says this typically happens when there’s “significant risk” of a negative credit event in the short-term.

Surely, some investors are just looking to hedge their exposure to American debt. But Kevin McPartland, director of fixed income research at the TABB Group, speculates that the huge increase in trading of credit default swaps is due even more to investors “try[ing] to profit for the uncertainty and volatility in US debt.” In other words, they just want to make a killing buying and selling credit default swaps as they spike due to political instability in Washington. A crafty move, if not entirely classy.

Matthew Zeitlin is an intern at The New Republic.

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posted in: politics, rbc capital, united states, george gero, glenn beck, tea partiers, thomas osbourne

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