Dow falls 200 points as debt ceiling talks show little progress

What’s driving markets

Stocks fell Wednesday morning, extending Tuesday’s 1.1% sell-off for the S&P 500 which came after reports suggested talks to extend the U.S. government debt ceiling were at an impasse.

U.S. Treasury Secretary said Wednesday morning that it is “almost certain” that the Treasury will run out of resources in early June. Yellen also said there could be pain even with a deal.

“One of the concerns I have is that even in the run-up to an agreement, when one does occur, there can be substantial financial-market distress. We’re seeing just the beginnings of it,” she said, as she responded to questions about Washington’s debt-ceiling standoff during The Wall Street Journal’s CEO Council Summit.

“But if you go back to 2011, remember that U.S. Treasurys were actually downgraded. The stock market fell almost 20%.” A debt ceiling deal was reached in 2011 at last minute before the X date, or the date when U.S. is unable to fulfill its financial obligation, when a similar standoff was in play.

As the debt ceiling deadlock continues, “investors are likely to continue to see the behavior we’ve seen recently,” said Kristina Hooper, chief global market strategist at Invesco US.

“Stocks go up when the news is fairly positive. When the discussions are stalled, stocks go down. Well we are gonna continue to see the bond market showing concerns, more accurately pricing in risks,” said Hooper in a call.

All the bets would be off when the X-date hits, Hooper said. “Because we don’t have a playbook for that,” Hooper said.

Drawing from the experience in 2011, “we do have something like a playbook to guide us and give us some expectations around what would happen to different asset classes before the X date,” Hooper said. “But we don’t know what would happen if we reach the X date without an agreement.”

Most likely, investors will see yields on government bonds, especially the short-term ones, go up significantly. In 2011 “we definitely saw a flight to quality and a flight to safe havens, and treasuries were included on that list for investors, I don’t know if that’s gonna happen once we hit the X date. In fact, I think it’s going to be the opposite,” Hooper said.

The yield on the 2-year Treasury was up 3.6 basis points to 4.316%, according to MarketWatch data.

European stocks were also lower on Wednesday, while U.K. government bond yields rose after data showed inflation in Britain slowing to 8.7% in April, but was still higher than expected.

The stubbornly high inflation in the U.K. pushed expectations for the Bank of England’s peak interest rate to 5.5%, from the current 4.5% and reminded investors more broadly that the global battle against inflation was not done.

With that in mind, the minutes of the Federal Reserve’s policy meeting in May will be released at 2 p.m. Eastern.

Nvidia will deliver its results after the closing bell. The chip company’s shares are seen as having benefited of late by excitement over AI, and so investors will be keen to hear whether their hopes match reality.

Companies in focus

• Abercrombie & Fitch Co.  jumped 28% Wednesday, after the specialty apparel and accessories retailer reported a surprise fiscal first-quarter profit, amid strength in its Abercrombie brand.
• Kohl’s Corp.  shot up 9% after the department-store chain also reported a surprise fiscal first-quarter profit, even as sales fell a bit below forecasts.
• Palo Alto Networks Inc. shares rose after the cybersecurity company turned in another beat-and-raise quarter and its CEO Nikesh Arora forecast the software industry would be transformed by AI over the next 12 to 24 months.
• Intuit Inc. stock dropped almost 6% Wednesday after the Turbo Tax parent reported a narrow revenue miss for its fiscal third quarter, and raised guidance.
• PacWest Bancorp shares dipped 1% after saying it will sell its real-estate lending arm to Roc360 for an unspecified sum, as the beleaguered regional bank moves to refocus on its core business.