Wall St. Makes Fallback Plans for Debt Crisis

Lawmakers in Washington are racing to reach a deal to save the country from defaulting on its debt, but on Wall Street, financial players are devising doomsday plans in case the clock runs out.
These companies are taking steps to reduce the risk of holding Treasury bonds or angling for ways to make profits from any possible upheaval. And even if a deal is reached in Washington, some in the industry fear that the dickering has already harmed the country’s market credibility.
On Wall Street, Treasuries function like a currency, and investors often use these bonds, which are supposed to be virtually fail-proof, as security deposits in their trading in the markets. Now, banks are sifting through their holdings and their customers’ holdings to determine if these security deposits will retain their value. In addition, mutual funds — which own billions of dollars in Treasuries — are working on presentations to persuade their boards that they can hold the bonds even if the government debt is downgraded. And hedge funds are stockpiling cash so they can buy up United States debt if other investors flee.
The rating agencies, which control the fateful decision of whether the nation deserves to have its credit standing downgraded, are surveying other entities that would be affected by a United States default — like insurance companies and states — and issuing warnings that a United States downgrade could result in several other ratings cuts. States that might be downgraded, in turn, are trying to reassure the market that they could still pay their bills on time.
All these contingency plans hinge on the pivotal date of Aug. 2, when the Obama administration has said it will no longer be able to finance government obligations without raising the $14.3 trillion cap on government borrowing. If lawmakers do not act before then, it will be difficult for the Treasury to meet coming interest payments as well as obligations to government employees, vendors and programs like Social Security and Medicare.
Even though many on Wall Street believe that a default remains unlikely, the financial markets are starting to become agitated. Volatility in stocks has soared, and some investors say stock prices are falling because a United States default could severely raise companies’ costs of doing business.
In the Treasury market, investors are starting to sell, fearing that the government will not make good on some interest payments that will be due next month. And complex financial instruments that will pay out if the United States defaults have become twice as expensive to buy as they were at the start of the year.
Analysts say the signs of panic are small for now.
“The metaphor is a pile of sand,” said Mark Zandi, the chief economist at Moody’s Analytics. “You keep putting one piece of sand on the pile, nothing happens, and then, all of the sudden it just caves.”
Several traders and bankers, including Mr. Zandi, said the imminence of a possible default was already damaging the United States’ standing as the most creditworthy country in the world. The tarnished reputation may linger, even if the government reaches a deal, and especially if the country’s financial books remain unbalanced.
“Our aura is diminished. You know people really view the U.S. as the AAA, the gold standard, and I think we’re tarnishing that,” Mr. Zandi said.
The government began preparing for much tougher borrowing conditions in the years since the financial crisis, shifting toward issuing longer-term debt. This was especially needed because much of the debt issued to cover the financial crisis of 2008 was short-term debt.
The United States still enjoys low borrowing costs — below 3 percent on a 10-year-note — but there is fear that the theatrics around the current debate will increase those costs. Low national borrowing costs translate into lower borrowing costs for American corporations and individuals.
Deterioration of investor confidence in the United States could also hurt the value of the dollar, according to William H. Gross, co-chief investment officer of Pimco, a bond fund based in California. Mr. Gross said he believed that the dollar would become weaker because of the country’s inability to deal with its rising deficit. Instead, he favors currencies in China, Canada, Brazil and Mexico. Compared with the balance sheet of the United States, he said, “their dirty shirts are much cleaner.”
In New York, the hedge fund KLS Diversified Asset Management has been accumulating cash to take advantage of profit-making opportunities if, for instance, investors are forced to sell cheaply because of a decline in the nation’s credit rating.
KLS was founded in the summer of 2008, and it weathered that storm in part by having lots of cash on hand, though back then it also was able to consider its Treasury holdings to be nearly as safe as cash. In the case of a United States default, KLS says it believes it can make money if investors flee the market, said Harry Lengsfield, a managing partner of the firm .
In his view, a default is unlikely but it should not be a surprise if one occurs. “It’s hard to argue that this case hasn’t been telegraphed and people haven’t been warned and warned again,” he said.
One of the worst possibilities that people in the financial industry, like Mr. Lengsfield, have been discussing is that scores of insurance companies, pension funds and mutual funds might be forced to dump their Treasury holdings. Some investors have rules that they cannot hold assets that are rated below AAA. It was this sort of rule that drove the forced selling of mortgage bonds during the financial crisis.
But in some cases, Treasuries may be exempt from the AAA rules.
Deborah Cunningham, who oversees $271 billion in money market funds at Federated Investors in Pittsburgh, said the funds themselves — even the Treasury-only money funds — would not be pressured to dump their holdings if there were a downgrade. Securities and Exchange Commission regulations say only that the funds have to invest in Treasuries, not that those Treasuries must be triple-A rated, she said.
Several weeks ago, Ms. Cunningham put plans in place to deal with a default. The firm will convene a teleconference with the boards of affected funds, she said, and, she is considering arguing for holding onto the federal debt.
“We have to justify to the board why we would want to continue to hold them, which might be because they are a high-quality, minimum-risk security,” Ms. Cunningham said.
Still, it is unclear whether other investors might stampede for the exits.
“The question I think investors are going to face is, Where do they go?” asked Ms. Cunningham. “Do they go to foreign banks? U.S. commercial paper issuers? U.S. agencies? Is there a safer haven than Treasury securities?”
As early as this spring, bankers began assessing the exposure of their trading positions if interest rates spiked, which would probably occur if there was a default. They have also been evaluating whether they may need to demand additional security deposits from trading customers.
At Wells Fargo, for example, executives said they had been keeping close tabs on the bond market and making sure they had ample cash on hand.
Timothy J. Sloan, Wells Fargo’s chief financial officer, said that if Congress could not reach a deal or if there was a spike in interest rates, his bank would be there to handle the situation. But in terms of specifics, he said, there was not much banks could do. “Because nobody knows what is going to happen, nobody knows how to prepare,” he said.

Obama Administration Rolls Out Standards for Health Insurance Marketplaces

In a big step to carry out the new health care law, the Obama administration unveiled standards on Monday for insurance marketplaces that will allow individuals, families and small businesses in every state to shop for insurance, compare prices and benefits and buy coverage.
Kathleen Sebelius, the secretary of health and human services, said the insurance exchanges, the centerpiece of the new law, “will offer Americans competition, choice and clout.”
In theory, the exchanges will pool insurance risks and premiums so that individuals and small businesses will have “the same purchasing power as big businesses,” Ms. Sebelius said.
Issuance of the proposed rules shows how President Obama is moving inexorably to carry out his health care overhaul, despite attacks on the new law in Congress and the courts, where more than two dozen states are challenging the constitutionality of a requirement for most Americans to carry insurance.
In principle, liberals and conservatives support the exchanges, which they see as a way to increase the purchasing power of individuals and small businesses, but they disagree on how the exchanges should be configured. The regulations issued Monday, which provide a fair amount of latitude to states, were welcomed by consumer groups, patient advocates and some business lobbyists.
     But they may not satisfy liberals who argue that the exchanges should tightly regulate insurance and contract with selected health plans that offer the best deals. And they may not satisfy conservatives who want the exchanges to be wide open to any insurers that want to participate and meet minimum federal standards.
Every state will have an exchange by Jan. 1, 2014. Federal officials will assess states’ “operational readiness” as of Jan. 1, 2013, and will run the exchange in any state that is unable or unwilling to do so.
Many states have been pondering how to proceed, and the regulations will provide guidance. The National Conference of State Legislatures says 12 states have enacted laws to establish exchanges. Bills failed in nine states and are pending in 11 others, the organization said.
The Congressional Budget Office predicts that by 2019, about 24 million people will have insurance through exchanges, with four-fifths of them getting federal subsidies that average $6,400 a year per person. People with incomes up to four times the poverty level (about $89,000 a year for a family of four) will be eligible for subsidies to make insurance more affordable.
Each state exchange will certify “qualified health plans,” provide the public with “standardized comparative information” on costs and benefits, and rate each plan based on the quality and price of care. In addition, the exchange will help people determine if they are eligible for Medicaid or the Children’s Health Insurance Program, or for federal tax credits to subsidize the purchase of private insurance.
Federal officials said they would issue a separate rule later this year specifying the “essential health benefits” that must be offered by all health plans.
Trumpeting the advent of the exchanges, the administration said Monday that they would “give Americans the same insurance choices as members of Congress.” However, in response to questions after a news conference on Monday, health officials acknowledged that this claim was not necessarily correct.
A small employer will be able to pick “a level of coverage” for its employees. A higher level will pay more of the consumer’s medical costs. Under the law, members of Congress must generally get their coverage through an exchange. But a small business could legally choose a level of coverage lower than those offered to federal employees, including members of Congress.
Under the rules, an employer may allow employees to choose any health plan at a given level of coverage. But an exchange may also allow an employer to limit its workers to one or two health plans — far fewer than the number available to members of Congress and other federal workers.
With some states like Florida balking at the new law, federal officials went out of their way Monday to strike a conciliatory note, promising to be flexible. If a state is not ready by January 2013, Ms. Sebelius said, it still might qualify for “conditional approval” if it was on track to operate an exchange by January 2014. In addition, federal officials said, a state could set up and operate its own exchange in 2015 or later years if it is not ready in 2104.

War Crimes Charges Weighed as Crisis Continues in Syria

The Obama administration, seeking new ways to force the Syrian leadership to halt its violent crackdown on domestic dissent, is examining whether war crimes charges can be brought against President Bashar al-Assad, senior administration officials said.
The officials said the effort was part of a broader government campaign to increase pressure on the Syrian leader as his security forces continue to kill and wound protesters.
One senior administration official disclosed that the United States was examining whether Mr. Assad’s actions constituted war crimes and whether it was possible to seek international legal action against him, his government or Syria’s police forces and military.
The official said the United States was “looking into” whether “there are grounds here for charges related to war crimes, and whether referrals on that are appropriate.”
The official said the administration was also examining “additional economic steps — and one, in particular, has to do with the oil and gas sector in Syria.”
There has been wide anticipation that Mr. Assad would address the issues of internal dissent in a public address.
His crackdown has brought international condemnation of a leadership that has ruled Syria for more than four decades. In advance of any public comments by Mr. Assad on how to deal with dissenters, another senior administration official said, “I think the Syrian people are going to be focusing a lot less on words and a lot more on what is the action, what are the changes that are on the ground.”
That official said the United States was “working unilaterally, regionally and internationally in order to try to build a broad-based approach to how to respond to the need to increase pressure on the regime.”
Britain and France have proposed a Security Council resolution that would criticize Syria but not include military action or sanctions, like those in a resolution on Libya. Even the relatively mild language on Syria faces stiff opposition from Russia, a Syria ally, which has veto power as a permanent Security Council member. In an interview published Monday in the Financial Times, President Dmitri A. Medvedev of Russia practically ruled out support for such a resolution, saying he fears it “may state one thing but the resulting actions may be quite different.”

Exxon Predicts Big Yields From Discoveries in Gulf

Exxon Mobil has made two big new oil discoveries and a natural gas find in the deepwater Gulf of Mexico, news that underscores the importance of the basin to American crude output.
Oil and gas exploration in the gulf was halted by the United States government last year after the blowout at BP’s Macondo well, and activity in the gulf remains at levels far below those seen before the oil spill.
Exxon estimated the new wells could produce about 700 million barrels of oil equivalent.
“Seven hundred million barrels doesn’t happen very often,” said John White, an analyst at Triple Double Advisors in Houston. “That’s a lot of oil.”
This portion of the deepwater gulf is thought to hold as much as 15 billion barrels of oil. Recent large discoveries there include BP’s Kaskida field, estimated to hold three billion barrels of oil.
Exxon had reserves of 24.8 billion barrels of oil equivalent at the end of last year.
The discoveries are the company’s first in the gulf since the government moratorium was lifted.
The find “speaks to the fact there are resources in the gulf and if we have a tax and regulatory environment that will encourage us to find and produce our own domestic oil, the industry will respond,” said Mark Routt, an energy industry consultant with KBC Advanced Technologies.
Exxon has not finished its development plan yet, and more drilling will be needed to further appraise how much oil is in the reservoir. Production could be years away.
The wells are located in the Keathley Canyon at a water depth of about 7,000 feet, 250 miles southwest of New Orleans.
Exxon owns a 50 percent interest in the three new wells, which are part-owned by Eni Petroleum U.S., part of Eni of Italy, and Petrobras of Brazil.
Last month, Noble Energy said it made an oil discovery at its Santiago prospect in the deepwater gulf. Noble was the first company to receive a drilling permit from regulators after the drilling halt.