What is the rationale behind stock markets retreating due to S&P having a negative outlook on the USA?
Many of the major indices retreated   today because of this news. Why? How   do the rising budget deficits and debt   relate to the stock markets? It does seem strange that there is a correlation between government debt and the stock market.  But I could see many reasons for the reaction.  The downgrade by S&P may make it more expensive for the government to borrow money (i.e. higher interest rates).  This means it becomes more expensive for the government to borrow money and the government will probably need to raise taxes to cover the cost of borrowing.  Rising taxes are not good for business.  Also, many banks in the US hold US government debt.  Rising yields will push down the value of their holdings which in turn will reduce the value of US debt on the businesses' balance sheets.  This weakens the banks' balance sheets.  They may even start to unload US bonds. Why is there such a large emphasis on   the S&P rating? I don't know.  I think they have proven they are practically useless.  That's just my opinion.  Many, though, still think they are a credible ratings agency. What happens when the debt ceiling is   reached? Theoretically the government has to stop borrowing money once the debt ceiling is reached.  If this occurs and the government does not raise the debt ceiling then the government faces three choices: Many of the major indices retreated   today because of this news. Why? How   do the rising budget deficits and debt   relate to the stock markets? The major reason for the market retreating is the uncertainty regarding the US Dollar. If the US credit rating drops that will have an inflationary effect on the currency (as it will push up the cost of US Treasuries and reduce confidence in the USD). If this continues the loss of USD confidence could bring an end to the USD as the world's reserve currency which could also create inflation (as world banks could reduce their USD reserves). This can make US assets appear overvalued. Why is there such a large emphasis on   the S&P rating? S&P is a large trusted rating agency so the market will respond to their analysis much like how a bank would respond to any change in your rating by Transunion (Consumer Credit Bureau) Does this have any major implications   for the US stock markets today, in the   short term and in July? If you are a day-trader I'm sure it does. There will be minor fluctuations in the market as soon as news comes out (either of its extension or any expected delays in passing that extension). What happens when the debt ceiling is   reached? Since the US is in a deficit spending situation it needs to borrow more to satisfy its existing obligations (in short it pays its debt with more debt). As a result, if the debt ceiling isn't raised then eventually the US will be unable to pay its existing obligations. We would be in a default situation which could have devastating affects on the value of the USD. How hard the hit will depend on how long the default situation lasts (the longer we go without an increased ceiling after the exhaustion point the more we default on). In reality, Congress will approve a raise, but they will drag it out to the last possible minute. They want to appear as if they are against it, but they understand the catastrophic effects of not doing so. "When people (even people in the media) say: ""The stock market is up because of X"" or ""The stock market is down because of Y"", they are often engaging in what Nicolas Taleb calls the narrative falacy. They see the market has moved in one direction or another, they open their newspaper, pick a headline that provides a plausible reason for the market to move, and say: ""Oh, that is why the stock market is down"". Very rarely do statements like this actually come from research, asking people why they bought or sold that day. Sometimes they may be right, but it is usually just story telling. In terms of old fashioned logic this is called the ""post hoc, ergo proper hoc"" fallacy. Now all the points people have raised about the US deficit may be valid, and there are plenty of reasons for worrying about the future of the world economy, but they were all known before the S&P report, which didn't really provide the markets with much new information. Note also that the actual bond market didn't move much after hearing the same report, in fact the price of 10 year US Treasury bonds actually rose a tiny bit. Take these simple statements about what makes the market go up or down on any given day with several fistfuls of salt." If you spoke in front of a group of people in 2001 about the possibility of be lowered, you would be written off as a kook. Now S&P is talking about a negative credit outlook -- scary stuff. It's scary because a base assumption in any risk model is that US Treasury debt is utterly reliable and comes with zero default risk. So publicly banding about the notion that US Treasury debt may be less the AAA in two years is a shock to the system and changes the way many people assess risk. It's also scary because Treasury debt is auctioned... will a spooked market still accept a measely 2.9% return for a 7 year T-Bill? But while the prospect of a credit downgrade is truly a bad thing, you also need to take the S&P statements with a grain of salt -- since being a named a villain during the mortgage implosion (these were the guys who declared junk mortgage securities as AAA), they now err on the side of doom and gloom. So while things are bad, they've been bad since the Bush administration was forced to put Fannie Mae & Freddie Mac on the government balance sheet to stave off a bank panic. The scary stuff about default in July due to the debt ceiling debate is not very credible at all. Unless the Republican House plans on dramatically slashing spending on Medicare, Defense or Social Security and have the votes to stick to that strategy, the debt ceiling will be raised after much ado. Politicians talk tough, but have a proven track record of creating financial problems tomorrow to fix electoral problems today. "I think a big part of the issue is ignorance. For instance, the US govt cannot default on its loans, yet you keep hearing people speak as if it could. The US govt also does not have to borrow to pay for anything, it creates its own money whenever it wants. These 2 facts often evade many people, and they feel the US govt should act like a household, business, or a state govt. This disconnect leads to a lot of confusion, and things like ""fiscal crisis"". Just remember Rahm Emanuel - don't let a crisis go to waste.  Disclaimer: this is not to say the US should create money whenever it wants without thought. However, the simple fact is it can. For those interested in more, check out Modern Monetary Theory (MMT). Its economic study in a world not based on gold standard, or convertible currency (fiat currency)."
I would say the real story is less about the implications of low vol but rather what has caused it. IMO that would be:  1) lots of money chasing a handful of investments    a) loose monetary policy    b) wealth effects from fantastic returns since the GR    c) consolidation in various sectors (health, energy, tech)  2) rise of low cost index funds (all inflow go into the large swathes of the market so volatility across stocks is dampened)   3) various externalities of expansionary Fed policy    a) resulting low bond yields lead to larger flows into equities     b) low cost of debt feeding buybacks     c) it has been sustained for so long it has had stabilizing effect i.e. predictability is good for markets and business decision making   These factors make for an interesting story because what happens when some component of this system begins to show cracks? What happens when this low vol feedback loop ceases? Nobody knows. But it will not continue ad infinitum. Not all doom and gloom but it won't be the market we are used to today. The satisfaction from gains packs less of an emotional impact than the fear of loss. It's very difficult for many people to overcome this fear, so when prices begin to fall, many investors sell to minimize their potential loss. This causes a further drop, which can lead to more selling as other investors reach their emotional threshold for loss. This emotion-based selling keeps the market inefficient in the short term. If there aren't enough value investors waiting to scoop up the stock at the new discount, it can stay undervalued for a long time. "It's significant. I look at the VIX Index.  The VIX futures.  etc.  Usually stock  market scares from financial worries (the economy, liquidity freezes, European country defaults etc) tend to last a bit longer, and non-financial worries (plane crashes, military skirmishes) tend to last a few days - then back to biz as usual.  My feeling is that the S&amp;P500 will continue to grind higher as long as the US economy remains on life support (US fed injections), and you will see these periodic -5% S&amp;P500 mini-scares (which are buying opportunities) but the overall trend will remain intact (from the ""lower left to the upper right"" as that goof Dennis Gartman says).  Once the US Fed stops the bond purchase program - it's anybody's guess.    I also think we're in a tech stock bubble again but that's another topic." "The default scenario that we're talking about in the Summer of 2011 is a discretionary situation where the government refuses to borrow money over a certain level and thus becomes insolvent. That's an important distinction, because the US has the best credit in the world and still carries enormous borrowing power -- so much so that the massive increases in borrowing over the last decade of war and malaise have not affected the nation's ability to borrow additional money. From a personal finance point of view, my guess is that after the ""drop dead date"" disclosed by the Treasury, you'd have a period of chaos and increasing liquidity issues after government runs out of gimmicks like ""borrowing"" from various internal accounts and ""selling"" assets to government authorities.  I don't think the markets believe that the Democrats and Republicans are really willing to destroy the country. If they are, the market doesn't like surprises." &gt;Jeremy Grantham, chief investment strategist of Boston-based Grantham, Mayo, Van Otterloo &amp; Co., said margins will send stock markets tumbling when they eventually revert to their mean.   &gt;“The implication for the stock market is ugly, because it means earnings are unsustainably high,” Grantham’s colleague Ben Inker, GMO’s director of asset allocation, said in a telephone interview. "He's misunderstanding Buffett's argument, which is that all forms of investment compete, and so when interest rates give you guaranteed low returns, it makes sense for stocks to give you average low returns.  That implies *high* prices for current stocks, because your return on equities is the price tomorrow over the price today.  Buffett would likely agree with him that this implies slow growth in the future, though he may not want to say so for competitive reasons.  Historical P/E norms are a more wrong metric, because they don't capture any fundamental change that might have happened in the economy.  What's likely going on is a surplus of capital: as business becomes more efficient (i.e. generates more revenue with fewer workers), that excess cash flow becomes investable capital, but as it becomes more efficient (i.e. less of that revenue filters down to workers in the form of wages that they can spend on consumer goods), the amount of productive uses where that capital can be effectively deployed in income-generating activities declines.  More capital + fewer investable opportunities = higher supply + lower demand = the price of securities for the few areas of the economy that *are* doing well increases.  This is why you see insane valuations for tech companies.  If we do get a major economic crash, it will likely come from a Carlota Perez-style financial crisis, where all the money gets concentrated within emerging new industries focused on new technology, who can't sell their products because nobody else has any money.  We're on the path to that already, but it will likely take a decade or two to play out; there's still a lot of money left in the ""old economy"" which can be extracted.  Also, these style of financial crises usually are accompanied by war and a breakdown of the established political order, and so all bets are off anyway." "So, I've read the article in question, ""Basically, It's Over"".  Here's my opinion: I respect Charlie Munger but I think his parable misses the mark.  If he's trying to convince the average person (or at least the average Slate-reading person) that America is overspending and headed for trouble, the parable could have been told better.  I wasn't sure how to follow some of the analogies he was making, and didn't experience the clear ""aha"" I was hoping for. Nevertheless, I agree with his point of view, which I see as:  In the long run, the United States is going to have serious difficulty in supporting its debt habit, energy consumption habit, and its currency. In terms of an investment strategy to protect oneself, here are some thoughts.  These don't constitute a complete strategy, but are some points to consider as part of an overall strategy: If the U.S. is going to continue amassing debt fast, it would stand to reason it will become a worse credit risk, requiring it to pay higher interest rates on its debt.  Long-term treasury bonds would decline as rates increase, and so wouldn't be a great place to be invested today. In order to pay the mounting debt and debt servicing costs, the U.S. will continue to run the printing presses, to inflate itself out of debt.  This increase in the money supply will put downward pressure on the U.S. dollar relative to the currencies of better-run economies.  U.S. cash and short-term treasuries might not be a great place to be invested today.  Hedge with inflation-indexed bonds (e.g. TIPS) or the bonds of stronger major economies – but diversify; don't just pick one. If you agree that energy prices are headed higher, especially relative to U.S. dollars, then a good sector to invest a portion of one's portfolio would be world energy producing companies.  (Send some of your money over to Canada, we have lots of oil and we're right next door :-) Anybody who has already been practicing broad, global diversification is already reasonably protected.  Clearly, ""diversification"" across just U.S. stocks and bonds is not enough. Finally: I don't underestimate the ability of the U.S. to get out of this rut.  U.S. history has impressed upon me (as a Canadian) two things in particular: it is highly capable of both innovating and of overcoming challenges.  I'm keeping a small part of my portfolio invested in strong U.S. companies that are proven innovators – not of the ""financial""-innovation variety – and with global reach." Primarily because they don't want big price movements when they are in the market. If they spook the markets, either they have to buy at a higher price, or they sell at a lower price or they decrease the price of their holdings(which isn't always a big factor). The 3 situations they didn't want to be in the first place. And the most important thing is most analysts are dumb bozos, whom you should ignore. They tout because they want to increase their exposure in your eyes, so that they may land a job in one of those big investment companies, or they might be holding stocks and want to profit from it. Frankly speaking if you take advice from the so called analysts, be prepared to say goodbye to your money some day, mayn't be always. One near case maybe Carson Block from Muddy Waters, but he does his homework properly. "Clear malice?  lol   The article isn't even about ""the market"" it is about the economy.  The article is about how GDP growth is not looking that great.  The stock market can go up for reasons that have nothing to do with a good economy.  If investors believe Trump will cut corporate taxes, stocks should rise, because an investor will make more money when the company pays less in taxes.  Stock prices have gone up, but the economy isn't looking great." The market can stay irrational longer than you can remain solvent -John Maynard Keynes The stocks could stagnate and trade in a thin range, or decline in value. You assume that your stocks will offer you ANY positive return for every month over 24 months. Just one month of negative returns puts you underwater. Thats whats wrong with it.  Even if you identified any stock that has been up every month for a consecutive 24 months in the past, there is nothing that says it will be so in the future, and a broad market selloff will effect both indexes as well as individual stocks.  Literally any adverse macroeconomic event in the next two years will put you underwater on your loan, no matter how much research you do on individual stocks. Because US bonds have had the prior impression of absolute invincibility and safety that has helped the dollar become the world's reserve currency and the United States borrow essentially at will. For the people that care what S&P says, the aura of invincibility is broken and it is conceivable, in SOME universe, for the US to default on its debt. This is of little practical importance on its own, but it's yet another signpost on the road to Chinese or European economic hegemony. This article is so dumb. Passive investors should be concerned about poor corporate governance just as much as anyone else. The whole point is that active investors are more hesitant to put their money into companies like snap. Inclusion into an index could lead to technical buying. By ensuring the bare minimum standard in terms of corporate governance, S&amp;P is actually protecting passive investors. U.S. companies have two fundamental problems not within their control (plus others of course)  1. Growth in China is slowing dramatically, cutting prices and demand for commodities we export.  Even companies like Yum (which owns KFC) are hurting)  2. European demand for finished and high tech products is down sharply.  So while American demand is trying to make a comeback, we are so inter-linked that American businesses cannot fix this by themselves.  If I were buying stock, I'd look at companies that produce and sell entirely in the U.S., Canada and Mexico.  Edit: And I'd stay the heck away from new investment in the BRICS  Edit2: And its fine (from an investment POV ) if companies source parts or material outside of the U.S./Canada/Mexico - just don't count on any sales strength to China or Europe or the BRICS. S&amp;P 500 are a relatively small portion of the entire American economy. Any number of things could cause them to increase in value at a greater rate than total output.   For example, distribution of total spending could shift from the public sector to the private sector if government tax receipts and outlays were decreased. It's also possible the economy is becoming more centralized towards tech and industrial giants, with an increasing market share in the hands of fewer, larger companies. More questions!  1.) I thought the criticism of the Dow was that it's much smaller than other indexes and thus less representative of the market as a whole?  2,) When you say private investors are you talking about a few specific people? Or anyone who invests at all?  Thanks