Sunday September 30, 2012

Associated Press

NEW YORK -- As Presi dent Barack Obama widened his lead over Mitt Romney in polls this month, traders at hedge funds and investment firms began shooting emails to clients with a similar theme: It’s time to start preparing for an Obama victory.

What many in the market worry about isn’t that high earners may pay more in taxes if Obama wins. It’s gridlock in Washington come January, when more than $600 billion in spending cuts and tax hikes could kick in just as the country smacks into its borrowing limit again.

In a second term, Obama would likely be pitted against a Republican-controlled House of Representatives. Investors say that’s likely to set up a budget battle similar to August of last year, which ended with the country losing its top credit rating and panicked investors fleeing the stock market.

"If you have any kind of gridlock, you run the risk of inaction," says Tom Simons, a market economist at the investment bank Jefferies. "This is a situation where inaction is the worst outcome."

The next fight could get just as messy, but most on Wall Street think Congress and Obama would eventually manage to postpone some of the $600-billion-plus "fiscal cliff" and avoid tipping the economy into a recession.

The Congressional Budget Office recently laid out the grim consequences of dropping off the fiscal cliff.


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The economy would shrink at an annual rate of nearly 3 percent in the first half of next year and push unemployment up to 9.1 percent by the fall. Recent surveys of businesses suggest the threat is already weighing on the minds of executives when they’re making hiring and spending plans.

For the world’s biggest money managers, the fiscal cliff now ranks as the greatest hazard to the global economy, according to Bank of Amer ica’s most recent fund manager survey. It topped the Euro pean debt crisis, a collapse in Chinese real estate and even a war between Israel and Iran.

The danger looms so large to most investors that they believe Washington will find a way to escape it.

"Ultimately, I think a deal gets done, but it’s just a question of how long it takes to get there," says Jeff Kleintop, chief market strategist at LPL Financial. "By no means is it going to be an easy process. Gridlock means there’s a greater chance that this drags on into next year."

Analysts at investment firms have kept a close eye on polling numbers and especially on the prediction market Intrade. National polls show voters leaning toward Obama. On Intrade, the odds have swung strongly in Obama’s direction, jumping to a 76 percent chance of re-election, up from 51 percent in September.

Democrats are far less likely to take the House from Re publicans, who hold a 50-seat majority. Intrade markets put the chance that Repub licans will control the House at 74 percent.

If these forecasts prove right, the balance of power in Wash ington would remain the same.