New York — Investors have anticipated the risks of a US government shutdown to markets for weeks. Now they are hoping it will be brief.
A shutdown that lasts at least several weeks could cause confusion about the Federal Reserve’s monetary policy path as the central bank will be without government data that helps guide its decisions. The longer the shutdown extends the greater the chance of it posing a possible drag on economic growth.
“We have the markets trading at extended valuations at all-time highs with an economy that seems to be showing some pretty clear signs of slowing,” said Eric Kuby, chief investment officer at North Star Investment Management.
“That slowness in the economy is going to be exacerbated by the lack of government spending, and the longer it goes on the more difficult it is to overcome those challenges.”
The shutdown, affecting a swath of government operations, is leading to the furlough of federal workers, while President Donald Trump, whose campaign to reshape the government is on track to push out some 300,000 workers by December, has warned congressional Democrats that a shutdown could lead to more job cuts.
Shutdowns in the past have typically had limited impact on the markets, with the S&P 500 stock index roughly flat on average during shutdowns since 1976, according to LPL Financial. More recently, since 1995, the S&P 500 finished higher during every shutdown, according to John Luke Tyner, portfolio manager at Aptus Capital Advisors.
However, the latest impasse could present a different risk, some investors say. The shutdown comes with concerns about America’s fiscal health — highlighted by a downgrade of the country’s sovereign debt earlier this year — and as companies absorb the impact of tariffs.
“It’s the cumulative, compounding effect of all of these events — the US credit rating downgrade, the changes to the trade regime and now the shutdown — that worries me,” said Brian Shipley, chief investment officer of Coldstream Wealth Management.
Shipley said if the shutdown extends past the two to four weeks seen in the past, raises a question about how investors globally will view the US. He said he has shifted some assets out of treasury bills to a portfolio manager with a wide mandate to own assets including international bonds.
Drag on GDP
The shutdown’s hit to growth will depend on its length, analysts said. Oxford Economics estimates a partial government shutdown reduces economic growth by between 0.1 and 0.2 percentage points a week.
A shutdown that lasts the entire quarter would reduce fourth-quarter real GDP by 1.2 to 2.4 percentage points, Oxford Economics said in a note, but cautioned that a shutdown of that length has never occurred.
A long-lasting shutdown may weigh more on consumer sentiment, said Lauren Goodwin, economist and chief market strategist at New York Life Investments.
The 2018-19 shutdown that lasted more than 30 days coincided with a 7% hit to confidence in the University of Michigan consumer survey, Goodwin said in written commentary.
The 19 partial or full government shutdowns over the past 50 years have lasted for an average of about eight days, according to analysts at Canaccord Genuity.
Analysts at BBH said in a note that a shutdown of more than two weeks “increases the downside risk to growth”. That raises the likelihood of a more accommodative Fed, which can further weigh on the dollar, BHH said.
Muddied Fed view
Indeed, many investors are focused on how the shutdown might sway Fed policy with the central bank due to meet at the end of the month and the likelihood now of delays to important data, starting with the US employment report that had been scheduled to be released later on Friday.
That expected gap in government releases could place more emphasis on alternative data, including the ADP National Employment report published on Wednesday which showed private payrolls dropped the most in two-and-a-half years in September.
“If the shutdown drags on, the weakness in the ADP will be all the Fed has to go on,” Capital Economics analysts said in a note.
Peter Cardillo, chief market economist at Spartan Capital Securities, doubts the shutdown will last two or three weeks, “but if it should, that puts the Federal Reserve in a big bind”.
On Wednesday, fed funds futures indicated investors widely expect a standard quarter-percentage-point cut at the central bank’s October 28-29 meeting, according to LSEG data.
To be sure, investors said that any economic hit to growth is likely to be recouped at least to some extent once the government reopens.
“The longer they go on, they do present more risk,” said Jack Ablin, founding partner and chief investment strategist at Cresset Capital. “Just like the shutdown isn’t permanent, any market impairment won’t be permanent either”.
Reuters
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