Government Shutdown: How Will It Impact Your Portfolio?

NEW YORK (MainStreet) — The government shutdown may have little immediate impact on your investment portfolio, but a larger threat looms by mid-month, according to Wall Street analysts.

As more than 800,000 federal civilian employees and as many as 1 million workers face furlough, expect an increase in market volatility at the very least, says Russ Koesterich, chief investment strategist for BlackRock.

"A pickup in volatility can be a short-term negative for stocks since a shutdown would modestly hurt fourth-quarter economic growth and cause a dent in consumer confidence," says Koesterich in an analysis. "However, assuming that any government shutdown is resolved within a week or two, we do believe that the longer-term impact will be limited. Investors should prepare themselves for more market volatility, but we would expect only a modest correction in stock prices."

But Koesterich says the situation may change abruptly in the coming weeks if Congress and President Obama don't come to an agreement to raise the $16.7 trillion debt ceiling, forcing the U.S. into a technical default on its debt.

"This would be a much more serious situation," he says. "A technical default on U.S. debt would cause a significant blow to the global financial system, would almost certainly cause a sharp pullback in stock prices, particularly U.S. stocks, and would be a negative for fixed income credit sectors. In fact, about the only asset class that would benefit from a debt ceiling breach would be gold."

In 1995 and 1996 the federal government faced two shutdowns and the stock market remained resilient, notes Roger Aliaga-Díaz, a senior economist for Vanguard. "In fact, markets were defiant, and broad equity and bond prices rose against the pessimism," he adds.

But Aliaga-Díaz also cautions that the stakes are high as lawmakers face the next challenge.

"The debt-ceiling discussion has a big symbolic component," he says. "If Congress actually failed to increase the limit, it would mean a tremendous fiscal squeeze of the size of the budget gap and a significant challenge for the 'full faith and credit' of the U.S. government. The impact on the economy from such a dysfunctional political outcome would be unthinkable."

--Written by Hal M. Bundrick for MainStreet

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