Crashing a Christmas Party Near You
Jon is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
I have a friend on Facebook who thinks it's her job to keep us informed 365 days a year on how many days are left until Christmas. Some people are just more fanatical than others I guess. I like Christmas too. There's nothing like going surfing at Jacksonville beach on Christmas morning (what kind of traditions do you have?). I enjoy the things leading up to Christmas as well. I'm a family man, so I enjoy the family time. I'm a food man, so I enjoy the food time... As much as we may all love Christmas, this year you are going to have an unexpected and unwanted guest competing for your attention. No, it's not your ex, and it's not your crazy Uncle Leo. This year, while you're just trying to get into the spirit of the season, the US debt ceiling will be looking to curl up on your living room sofa.
Debt Ceiling Round One
I think we all remember what happened with this last time. The budget was punted by a largely exiting congress, newly elected congressional leaders held to their political ideals while established members balked at their audacity, party heads held their breath seeing who would cave first, all the while the United States of America came dangerously close to defaulting on their debt. Standard and Poor's was not amused in the least with this debacle. The US credit rating was downgraded.
The fallout from this wasn't 2008 all over again, but it was significant none-the-less. It was especially significant among stocks in the financial sector.
Bank of America (NYSE: BAC) was the hardest hit of the major players. Bad news affects Bank of America significantly because of the negative investor sentiment towards the company in general. But even companies like Capital One (NYSE: COF) and JPMorgan Chase (NYSE: JPM) suffered blows as well. What is interesting about the whole situation was the news was about US national debt, not about Bank of America. Regardless of the state of these companies, or the possible affects of a US debt default, the downgrade on the US debt wasn't about these companies. But they were affected tremendously.
Without a doubt, a downgraded US credit rating ripples throughout the US economy. Banks are affected by the downgrade. My point is that these banks would have been affected no matter how they were doing. They could be running a terrible business, or they could be setting a new standard of excellence with operating procedure. Either way the downgrade negatively affects their business and sends the stock skydiving like Felix Baumgartner.
Debt Ceiling Round Two
Didn't they already take care of this problem? Surely with all the fuss and fingers and hoopla they solved this debt ceiling problem once and for all. Wrong. The United States, at the current pace, could reach the borrowing limit just a couple of days before Christmas. You likely haven't heard about this because we are too busy discussing who won a presidential debate and the latest poll numbers. This, being an election year, has shifted the discussion from what the real issues are, and has shifted to who will be a better president. The debt ceiling won't likely be seriously looked at until after the election.
Don't expect too much difference in round two from round one. Republicans and Democrats still believe and will fight for the same things as before. Unless the balance of power significantly shifts towards one direction or another in November, this could be a checkmate situation once again. Moody's has already threatened a downgrade if the national debt isn't reduced by the end of 2013. But any of the 3 major credit raters could downgrade the US at any time they see fit.
It's a shame too. Financial stocks are having a fun year.
All three of these stocks have had a really good year so far. Many investors are buying back in to these stocks because they like how they have changed the ways they do business the last couple of years. Buffett bought into BAC because he likes how the business looks now post-crisis, and specifically he believes in what Brian Moynihan is doing at the helm.
Regardless of how these companies are doing with profit margins, revenue streams, dividends...whatever it is, if the US credit rating is downgraded again, these stocks would be adversly affected.
So What Now?
Understand that in this article I am making neither the bull nor the bear case for any of these companies. An investment in any of them, like any investment, would need to be initiated based on conviction of the value and future profitability of the company.
First, it's not completely certain that the US credit rating will be downgraded further. It looks likely, but there is still time for policies to be made and implemented in Washington that would satisfy these credit agencies. Since none of us have seen the future, we will have to wait and see how the situation progresses. At this moment in history, there is no need to panic. If you own shares now, continue to remind yourself of why you bought in. Then ask yourself if anything has changed. If it hasn't, just sit back and hold on.
Second, if things continue and the rating is downgraded, it's very likely there will be another significant drop in the financial sector. But this is likely to be a short-term drop. Last year the drop lasted about 5 months before the shares rallied to give us this fantastic 2012. If you already feel like a certain bank is a solid investment, a drop in share price will give you a good entry point.
Dive In, Investors
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thequast owns shares of Bank of America. The Motley Fool owns shares of Bank of America and JPMorgan Chase & Co. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.