Two things you must know how Debt Ceiling crisis hurts 401K’s: Independent Financial Advice

    People wonder how to protect their 401K from the debt ceiling crisis. They want to know will Treasuries go down if devalued by the government? First of all Treasuries would not be “devalued” by the government. Instead, a default would make the marketplace reject Treasuries, causing them to go down in value. The word "devaluation" should be used in regards to the dollar going down against other currencies, rather than using it to talk about Treasuries. The dollar is not the same as a Treasury Bill, but has similar characteristics.

   The level of intensity and the stakes involved remind me of the Cuban missile crisis of October, 1962. People should see the movie “13 Days in October” to see how close we came to nuclear war and how the president and his advisors were unable to trust the military and thus they had to devise special channels to find out what was happening. That is a double analogy to the debt crisis: 1^st it is an analogy about the tension and danger, secondly it is an analogy about the inability of the president to get reliable data from his own chain of command, or to modify the metaphor, the president may not be getting reliable economic advice from the left-wing of his party.

    A Treasury default would cause interest rates to rise because many loans are based on a spread over Treasuries, so if Treasury rates went up then all type of interest rates would go up.

     The rate rise would hurt stocks because it would make the purchase of stocks (using margin borrowing) by leveraged hedge funds less profitable so they would sell off some of their stocks and the stock market would go down.

    In general a default would make the economy perform more poorly than it already is, thus justifying a bearish opinion about stocks, which would make stocks go down.

    The Fed could decide to fight this with QE3 and buy up Treasuries to force rates back down.

  

     People worry that their 401K will go down because of a federal government debt crisis shut down. Investors should focus more on their overall portfolio rather than simply their 401K. A 401K is simply an investment vehicle that has tax advantages (and disadvantages). It also is a vehicle to encourage saving for retirement and to encourage employers to contribute to retirement. Of course it may be some people’s only significant asset, especially if their house has no equity.

      A 401K has some “asset protection” aspects in event of bankruptcy depending on complex issues including what state do you live in and whether you have lived there for at least 40 months and other factors.

     A 401K is superior to an IRA because you get penalty free withdrawals at age 55 (or even age 54) if you lose your job in the year you turn 55. It is superior to an IRA because it allows loans.

   I wrote blog posts “Are your funds trapped in a 401K?” and “Treasury debt crisis 401K investing” and "Two things you must know about debt crisis damaging 401K's.

    Ultimately the Treasury can pay its debts because they are denominated in dollars, as long as Congress agrees to borrow more. It is a matter of Congress allowing the Treasury to incur more debt. Of course, in the long run (which is coming soon) the U.S. will not be able to borrow more, which is why it is a good idea for Congress to take the time to negotiate to obtain spending cuts.

  Investors should seek independent financial advice.