
Based on the eyes and ears of Standard & Poor', the U.S. government is no longer rated Triple-A country, hence, should be removed from its list of risk-free borrowers.
The drop on rating came as no surprise since it happened after a gridlocked U.S. Congress finally agreed to spending cuts that would reduce the debt by more than US$ 2 trillion—a tumultuous process that contributed to convulsions in financial markets.
Moody's and Fitch, the other leading rating agencies, has confirmed the drop in ratings, but was quick to acknowledged that the US is far from being considered as “junk” status, like say, Greece. Nevertheless, they have worried about the long-term prospects for the United States.
So, what does this means for developing country like the Philippines foreign exchange reserves are denominated in US dollars and are mostly invested in US Treasuries?
According to Finance Secretary Cesar Purisima, given the links of Philippine markets to the US, any unfavorable event in the world’s biggest economy is expected to somehow dampen even their performance.
The Philippines' gross international reserves (GIR)—the reserves of foreign currencies that determine the country’s ability to purchase imports, pay debts to foreigners, and engage in other commercial transactions with the rest of the world—stand at about US$ 69 billion and the bulk of these are invested in US Treasuries.
For Philippine-based stockholders, it might result to large volume of selling during the stock market trading, which is understandable since this is really the usual knee-jerk reaction to negative market perception. However, history has shown that when a country loses its AAA credit rating, it's not necessarily terrible news for the stock market.
When Canada lost its AAA rating in April 1993, for instance, the country's stocks gained more than 15 percent in the subsequent year. The Tokyo stock market climbed more than 25 percent in the 12 months after Moody's downgraded Japan in November 1998.
Stock market players and investment strategists were one in saying that the most significant impact of the downgrade is only to add uncertainty to an already sluggish economy and making recovery a little bit longer than usual. The only sensible thing to do right now is, therefore, to dial down risk in the equity portfolios by gravitating toward shares of larger, stable companies or those that bore blue chip stocks and are globally diversified. Diversification in emerging markets such as China and Philippines can help offset the possible negative outlook of the US market.
You may ask, why not go directly to the emerging markets and abandon any plans of buying depreciated US stocks? It is because U.S. multinationals are trading at much more attractive values than emerging market stocks, which have been on a tear for the past decade. And large-cap multinationals tend to pay big dividends, which may come in handy during periods of slow growth.
Also, US corporate profits are one of the major factors that could make the downturn a little bit milder than the previous financial crisis. Corporate profits are at record highs and, adjusted for inflation, were 22 percent greater in the first quarter of this year than they were in the last quarter of 2007.
With regards to stashing some green, it might be prudent to keep those extra cash in FDIC-insured accounts, money market funds or short-term Treasuries because they will not be so affected by the downgrade. For example, money in a FDIC-backed bank account would be protected by deposit insurance.
The money market mutual funds, on the other hand, although may be insured, but these are generally investment in short-term debt, and discussion of a downgrade has so far been limited to long-term U.S. bonds.
For now, one thing is clear. Even without an AAA rating from S&P, US debt is still seen as one of the safest investments in the world. It was obvious this week when investors were buying Treasury and driving up their prices, while some stocks were plunging. The yield on the 10-year Treasury note, which falls when the price rises, fell to a low of 2.39 percent on Thursday (4 August 2011) from 2.75 percent Monday (1 August 2011).
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