NASDAQ Index, SP500, Dow Jones Analysis: Is The Debt Ceiling Deal Priced In By The Markets?
- U.S. President Joe Biden announced that Democrats and Republicans reached a debt ceiling deal.
- The deal will have to pass through Congress.
- Traders may stay cautious as Fed’s potential rate hike and increased borrowing from the U.S. may put pressure on liquidity.
Democrats and Republicans have finally managed to reach consensus on the debt ceiling deal. The deal will have to pass through Congress, but few investors doubt that the U.S. will ultimately raise the debt ceiling.
In my opinion, there are two main reasons for this. First, traders worry about potential rate hikes. The lengthy negotiations have already pushed Treasury yields to multi-week highs. The yield of 2-year Treasuries moved from 3.80% to 4.60%, while the yield of 10-year Treasuries increased from 3.40% to 3.75%. A potential rate hike may push them even higher.
The recent PCE Price Index report exceeded analyst expectations, indicating that inflation could become entrenched. At this point, the Fed is worried that it will not do enough to fight inflation, ending up in a scenario when inflation remains above the 2% target for many years.
Thus, the Fed may ignore recession risks and put more pressure on the economy to fight inflation. The FedWatch Tool indicates that there is a 59% probability of a 25 bps rate hike at the next meeting, which is bearish for stocks.
Second, traders should note that liquidity may dry up when the U.S. rushes to borrow money after the debt ceiling is raised. U.S. Treasuries stay among the best safe-haven assets despite the recent debt ceiling drama, so investors will use the opportunity to lock in attractive yields.
In this light, it remains to be seen whether stocks will rally when traders get back to their desks on Tuesday. At the same time, the strong rally in AI-related stocks may provide enough support to major indices.
For a look at all of today’s economic events, check out our economic calendar.