When you're at the top, there's usually nowhere to go but down. The United States' debt is and has been considered the most secure investment in the world for longer than almost all of us have been alive. Today, the S&P 500 index fell an ominous 6.66% in its first day of trading -- ever-- in which the preceding sentence was untrue.
This has been a long time coming, as everyone on Wall Street knows. It can be traced to poor policies and fiscal irresponsibility that go back years, even decades, with nearly everyone to blame somehow. However, as with so many terrible eventualities, its crude delivery into reality was expedited, like a C-section with a rusty hunting knife, by two small groups of people who are certainly not at all like you or me. First, we have a group of politicians comprising about 1/12th of elected representatives in the legislative branch, which is 1/3rd of the federal government, and therefore 1/36th of any importance to anyone, stubbornly and childishly flouting financial commitments we as a country have already made in order to push a particular political agenda. It may or may not prove to be a bitter pill that is beneficial in the end, but to allow such a small faction of our public servants to sabotage our national financial security discussion like a cadre of message board trolls is, to say the least, embarrassing for all Americans.
At least we can vote them out. So much cannot be said for the second group of people. And therein lies the purpose of this article. Everyone has an opinion on the how and why of the downgrade. We might not all agree, but that is why we have freedom of speech, and that is why the market is supposed to swing based on public perception. But, what do we do when a commercial entity, which is not chosen by the people, and which is only "selected" by the "free" market as a consequence of paucity of due diligence and real information, can hold the entire market, and indeed the entire world, hostage at its whim?
I'm not writing this to get into a protracted debate about the supposed categorization of the $2 trillion error that S&P ignored, or the rationalizations of their sparkling credit rating of Enron nearly ten years ago, just prior to its collapse. Terabytes of mudslinging, flamebaiting, finger-pointing outrage are already leaving skidmarks around the web on that topic. (Incidentally, if you have not read the short blog post of the guy who found the error, check it out.) I'm not even going to delve into the whys and wherefores of the AAA ratings for mortgage backed securities, which broke the backbone of our economy three years ago, although I have been eager to expound on that topic for some time. (A small snippet can be found in my coverage of VNQ from a while back.)
I would like to shine a light on the topic of accountability. Long time PT analysts know that accountability is paramount at ProofTrader. We started this site because whether or not you believe the market is efficient, it is not without its flaws, and many of those flaws happen to exist within its nobility. Every day, we make predictions and, honestly, about half the time they are wrong. We try to learn from our mistakes to increase our success rate, and all the while, the ProofTrader site is objectively analyzing what's what, while the community offers subjective analysis. They say who watches the watchmen; well, who rates the credit rating agencies?
You see, in every one of those internet tete-a-tetes debating spending vs "revenue" vs Bush tax cuts vs Europe... in every one, someone, some sane individual asks, what does this all really mean? They ask, how do we know these credit agencies are right, or that what they say means anything, or that they do not have a conflict of interest? Some even claim it to be treasonous for trusted Americans to ignore a huge math error and deflect the primary reasoning to politics (see again: Bellows blog post) at such a volatile time, when the implications of your actions and words, uniquely, could adversely and drastically affect the health of the entire US economy. Just because they started us out at the top does not mean they get to be the ones who knock us down.
What happens if these agencies' words cause mass panic and the average joe takes it as a harbinger of doom and liquidates his 401k or IRA at firesale prices -- or worse, harms others or himself -- only to have the market bounce back to where it was before the announcement? As one rockstar financial expert whose mettle we would also love to test with a PT Score said, "The downgrade is Wall Street's way of claiming dominance over political jockeying. It would be a mistake for investors to panic." Those are the words of famous investor, advisor, and author Ric Edelman, who went on to point out that Japan's stock market gained 25% in the year after its downgrade over a decade ago. We sure hope Ric is right.
With great power comes great responsibility, and absent any accountability measures, we have no way of truly knowing whether S&P has failed the American people or done us a great service. In a bizarre sort of Economic Uncertainty Principle, we do know that their analysis causes markets to move, and not always in the direction that people would like. Paradoxically, a US credit downgrade causes many investors to flee to the security of... US debt? The intentional abstrusity of the old guard market has to go; in this 140 character society (I say somewhat tongue-in-cheek) it needs to be easier for the average market participant to put advice in context, and parse whether or not it is valuable.
Currently, we only allow analysis of daily traded equities on ProofTrader, but in any case, I'd like to invite the purveyors of our new national tarnish to put their predictions to the test and make some predictions here. I know we'll probably never get so much as a nod from S&P, but if you agree with them, then we'd like to see how you stack up as well. And if you do work for S&P, remember, you don't have to use your real name. :)
The confidence level on this prediction is 1 because, obviously, I wanted to write the article and I have no idea where the market will open tomorrow. I started eyeing the VIX when it in the mid-teens, less than a month ago, but never wrote a coverage. (Not following my own advice from VNQ above.) Shooting from the hip, I'm thinking it will peak in the mid-high-50s before relaxing by the holiday season, when everyone will start to be distracted by the 2012 election process. The prospect of extracting the cancer from our leadership should inspire a modicum of confidence in the markets through Q4.
In closing, if you agree that credit rating agencies should be held more accountable for their predictions -- not punished, but publicly tracked -- then please take a moment to join ProofTrader and tell us how you feel.