Anxiety fades from financial markets as Washington nears budget deal

NEW YORK -- Stocks rallied and bond yields eased as Washington edged closer to defusing its latest fiscal crisis and averting a default on U.S. debt.

Major U.S. stock indexes gained 1% as Congress appeared poised to pass a Senate-led compromise that would raise the United States’ borrowing authority and reopen the federal government.

The Dow Jones industrial average surged 205.82 points, or 1.4%, to close at 15,373.83.

The broader Standard & Poor’s 500 index gained 23.48 points, or 1.4%, to 1,721.54. The technology-focused Nasdaq composite index rose 45.42 points, or 1.2%, to 3,839.43.

“We have averted catastrophe – this time,” said Ron Florance, deputy chief investment officer at Wells Fargo Private Bank. “The idea of a default is so catastrophic it’s even hard to fathom what the impacts would be.”

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Although anxiety in the stock market has been relatively muted, nerves were rattled in a typically quiet corner of the fixed-income market: short-term U.S. Treasury bonds, or T-bills.

Four-week T-bills have long enjoyed status as a risk-free investment that was as good as cash -- backed by confidence in the United States’ willingness to pay its bills on time. They are a crucial piece in the behind-the-scenes wheels of finance, helping the government, Wall Street firms and companies fund day-to-day operations.

But yields on those T-bills, a measurement of perceived risk, shot up to 0.34% on Tuesday, the highest level in about five years. That meant that Uncle Sam was paying more to borrow cash for a month than for a year, a sign that investors worried the U.S. government might not make good on its debts over the next month.

On Wednesday, however, yields on four-week T-bills fell sharply to 0.13%, though still an elevated level.

“There is certainly relief in the market,” said Joe Lynagh, a portfolio manager overseeing money market and cash investments at T. Rowe Price. “What looked to be a near-term liquidity crisis has abated – for the time-being, at least.”

A potential U.S. default stoked worries of a credit crisis akin to what happened in 2008 after the collapse of Lehman Bros.

“The unprecedented nature makes it difficult to fully predict what would happen,” Rob Toomey, managing director at the Securities Industry and Financial Markets Assn., a Wall Street trade group, said in a call with reporters Wednesday. “Whether or not that leads to a full-blown credit crunch, I don’t know. But I know a number of commentators have speculated that this would be significantly ... bigger than the Lehman event.”

Major Wall Street firms have been shunning short-term T-bills as a precaution against the federal government missing debt payments.

Larry Fink, chief executive of the investment giant Black Rock Inc., told analysts Wednesday the firm had “dozens of teams” readying contingency plans in case of a U.S. default.

“Even with the deal to avoid a default, the damage has been done by the fact that we have had a debate questioning whether the U.S. will pay its bills,” Fink said. “And the impact will be a slowdown in economic growth.”

If Washington’s deal collapsed for any reason and the nation’s so-called debt ceiling was not raised, market observers predicted a plunge in stocks and a sharp rise in interest rates.

But on Wednesday, at least, Wall Street was largely breathing a sigh of relief.

Wells Fargo’s Florance said his clients have been expressing a mix of anger and disgust at the latest showdown in Washington.

“It’s exhausting and nerve-racking,” Florance said. “The capital markets are kind of getting used to a little bit of crying wolf in Washington.”

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