To be a successful long-term investor, you have to jump on opportunities when they arise. Some of the best chances to make profits are when the crowd acts irrationally based on the fears of the day. We've seen some of those irrational fears lately from the Dow Jones Industrials (^DJI 0.16%), which are down again modestly today on ongoing concern about whether the U.S. government will act to raise the debt ceiling and allow the Treasury to make good on its obligations to finance government spending. As of 10:50 a.m. EDT, the Dow was down another 50 points, adding to yesterday's triple-digit losses as investors continue to see few signs of tangible progress in resolving the dispute.
Media sources are starting to seriously consider the potential for default. Speculation has started to run rampant, with headlines proclaiming that even Social Security is at risk, while other stories talk about the potential impact on Treasury financing costs and credit-market stability.
The epicenter of any default would be the financial stocks in the Dow, as they would potentially feel its impact most directly. Consider some of the possible effects:
- Rising interest rates from a default would hurt companies that have large exposure to rates through their bond portfolios. JPMorgan Chase (JPM 1.09%) said earlier this year that it could stand to lose as much as $15 billion if rates rise another 2 percentage points from current levels. Fellow Dow component Travelers (TRV 1.50%) also maintains a massive stake in bonds within its investment portfolio, and in its most recent results, Travelers saw a $1.77 billion drop in unrealized gains on its bond portfolio due to the rate spike in June.
- Goldman Sachs (GS 0.47%) could also feel the strain of a default if it had the collateral impact of making access to the credit markets more difficult for corporate issuers. Huge amounts of bond issuance have provided business for bond underwriters like Goldman, but that could come to an abrupt halt if confidence in dollar-denominated debt is crushed by the Treasury's default.
- Even on the consumer front, card networks Visa (V +0.17%) and American Express could feel the pinch of a default as spending volume falls. AmEx also bears credit risk that Visa doesn't, giving AmEx even more potential exposure.
Yet as tempting as it is to think that lawmakers will gladly lead the government off the newest cliff to default and financial ruin, even Washington's finest will see the dire consequences of continuing their game of chicken too long. As a result, if you see shares of the Dow's financial stocks start to fall more substantially, you can look at it more as a long-term bargain opportunity than as a reason to panic.
