Here's why bonds may actually rally if the US runs out of cash to pay its debts, according to UBS
The clock is ticking down for US lawmakers to come up with a deal to raise the country's $31 trillion debt limit, but not reaching an agreement could ignite a counterintuitive rally in the Treasury market, says UBS. and that could throw the US into an unprecedented economic crisis, Treasury Secretary Janet Yellen said this week. Congress not raising the debt limit to allow the government to meet its obligations will lead to a default, she said.
"Such an outcome, however, would still likely entail cuts in spending elsewhere, which could lead to a sharp hit to economic growth, and likely recession," Evan Brown and Luke Kawa at UBS Asset Management wrote in a May 2 note. That indicates that investors would still see US debt as a relatively safe haven the face of an economic contraction. The US has never failed to meet its debt obligations, but it lost its Triple AAA credit rating at S&P in 2011 as the country edged closer to a default.
"This limits some of the downside risk for corporate bonds on an all-in basis. And from a broader market perspective, fiscal policy that contributes to below-trend growth may be part of the solution to the lingering inflation problem," it said.
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