Economy Watch: S&P Downgrade Ripples Through the Markets

Observers, pundits and prognosticators weren't quite sure what investors would do after Friday's unprecedented Standard & Poor's downgrade of U.S. sovereign debt.

Going into the new week, observers, pundits and prognosticators weren’t quite sure what investors would do after Friday’s unprecedented Standard & Poor’s downgrade of U.S. sovereign debt. The more optimistic schools of thought said that the downgrade was already factored into investors’ thinking, since it’s been no secret for months that it could happen. In that scenario, there might have been a modest correction in the equities markets, but otherwise investors would act rationally.

No such luck. The Dow Jones Industrial Average dropped an almost historic 634.76 points, or 5.55 percent on Monday–its sixth-largest downward movement on record, and once again down below 11,000. The S&P 500 lost 6.66 percent, and the Nasdaq was down 6.9 percent. When the thunder sounded, investors scattered like ants for high ground.

Where is that high ground? That is, where are investors putting their money as they remove it from the equities markets? U.S. Treasuries, for one thing–and there’s probably little appreciation of the irony of that among some literal-minded investors. Gold saw a lot of buying action on Monday too, driving the metal up to a record price, of about $1,750 (adjusted for inflation, it’s still about $650 per troy ounce less expensive than it was in 1980). In times of panic, people turn to gold, overlooking the risk that while holding the metal might be comforting now, it could later prove to be a pretty gold-colored bubble (as in 1980).

Other downgrades, other reactions

The sovereign debt of the United States isn’t the only species of debt to feel the sting of the Standard & Poor’s rating lash. Since the debt of certain other places–subsovereign debt, in rating parlance–is linked so closely to that of the United States, that debt too is, or will be, taken down a notch. The two most prominent examples are the GSEs, Fannie Mae and Freddie Mac, though that’s little surprise, since they are de facto parts of the federal government. In an example of maladroit timing, Freddie Mac picked Monday to ask for another $1.5 billion from taxpayers to cover its most recent losses.

States and municipalities closely linked to U.S. debt are also in line to lose their AAA status. Less intuitively, so are certain private companies, such as the insurance companies Knights of Columbus, New York Life Insurance Co., Northwestern Mutual Life Insurance Co., Teachers Insurance & Annuity Association and United Services Automobile Association, as well as an assortment of bond funds, hedge funds and exchange-traded funds.

The Wall Street Journal reported on Monday that the Senate Banking Committee is gathering information about the downgrade, which likely means that some kind of hearings will be held about it once Congress returns to Washington in September. “I am deeply disappointed in S&P’s decision to enter into the game of political punditry,” Senate Banking Committee Chairman Tim Johnson (D-S.D.) said in a statement, which probably means that S&P can expect a good tongue-lashing for showing up to testify, something like the rating agencies are getting in Europe.

Employment trends index down slightly in July

Little-noticed in the froth of downgrades and down markets, other economic indicators are still being published. On Monday, the Conference Board said that its Employment Trends Index decreased slightly in July to 100.6, down from June’s revised figure of 100.9. The July figure is up 4 percent from one year ago.

Negative contributions from three out of the eight components spurred July’s decrease. The weakening indicators include the percentage of respondents who say they find “jobs hard to get,” the percentage of firms with positions not able to fill right now, and job openings, which is a forecasted component.

“The Employment Trends Index … is signaling employment growth of less than 100,000 per month through the end of 2011,” predicted Gad Levanon, associate director of macroeconomic research at the Conference Board, in a statement. “There is simply not enough growth in production to warrant stronger hiring.”

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