Money managers expect Washington to punt on fiscal cliff fix

NEW YORK Wed Nov 28, 2012 2:11am GMT

NEW YORK (Reuters) - All the talk about Washington's looming fiscal cliff, a combination of big tax hikes and budget cuts set to begin next year, has at least one U.S. bond manager joking that it could inspire a new Wall Street drinking game for those frustrated with federal government inaction.

Bonnie Baha, a senior portfolio manager at DoubleLine Capital in Los Angeles, said: "Every time you hear it, you're going to have to take another swig of beer."

This takes on a ring of gallows humor, however, when coupled with warnings by Baha and other money managers that a failure to cope with the fiscal cliff could hit U.S. stock markets hard.

The consensus is that Congress will find a way to patch the fiscal gap, putting off a day of reckoning that markets will later force harshly upon policy-makers for failing to tackle the U.S. government's chronic deficit, several attendees at the Reuters Investment Outlook 2013 Summit said.

Baha said she feared that a solution would get kicked down the road for at least six months, a development that will not please stock market investors.

Lawmakers inched ahead on Tuesday towards a compromise, but a firm deal to avert some $600 billion in government spending cuts and increased taxes that are scheduled to begin in January still seemed miles away despite growing pressure for action.

President Barack Obama planned meetings with business leaders this week and then was scheduled to travel to a factory in Pennsylvania on Friday to press his case on raising taxes on the wealthy to narrow the deficit.

"The fiscal cliff, we'll get through it because we know what Congress is going to do," John Brynjolfsson, chief investment officer at hedge fund Armored Wolf in Irvine, California, said at the summit in the Reuters headquarters in New York.

"They've done it every time for the past 40 years, which has been to spend more, tax less, have bigger deficits - and they're going to pat each other on the back and say, 'We've done great.'"

WAKE-UP CALL

Other investors speaking at the summit also said that Congress will not seriously address the government's chronic fiscal shortfall and will push the day of action off into the future.

Both Republicans and Democrats will likely give up something, but it won't change the underlying problem - years of deficit spending, said Tad Rivelle, chief investment officer for fixed income at Los Angeles-based TCW, which has $135 billion under management.

"If you were going to be a cynic - and that's probably the way to look at it - there's probably going to be some fixes at the margin," Rivelle told the summit.

The fiscal cliff is unlikely to be resolved until the financial markets in a year or two send a clear message that deficit spending just doesn't work, he said.

"You can't go on borrowing resources from the rest of the world and consuming them, assuming this will continue forever. It would continue forever if you had a rate of underlying growth that supported it. But you don't," Rivelle said.

The wake-up call will likely come from China, he said.

"Not until you get somebody in Beijing who says the U.S. was supremely bankable in 2008, it was bankable in 2012 and then, they look at it in 2014 and say: 'It's not a bankable country.'"

While Rivelle and others saw some horse-trading to arrive at a temporary solution, a senior policy adviser at the AFL-CIO labor organization said President Obama was unlikely to back down on his plan to tax the wealthy.

"What ought to happen now is that the focus of policy-makers ought to be on two tings," said Damon Silvers, director of policy and special counsel at the AFL-CIO.

"Ending the Bush tax cuts for those making $250,000 a year on January 1, and ending them means letting the rates return to what they were under Clinton," Silvers said.

"The second thing is not to knuckle under to demands to cut our social insurance as a price for tax fairness for the rich."

If a resolution to the fiscal cliff isn't found it would be devastating for the housing market as the U.S. economy would likely dip into recession, said Rick Sharga, vice president at Carrington Mortgage Holdings Inc in Aliso Viejo, California, which has been buying and renting foreclosed homes since 2007.

"If the fiscal cliff hits, we see a spike in unemployment, we see the economy go into or approach a recession, it will take an enormous toll on consumer confidence," Sharga said. "So it would really knock the stuffing out of the housing market."

However, a fix most likely will be found to avert the shock to the economy that the fiscal cliff would cause, he said.

"My likely scenario is we wind up with some sort of patch that gets us a short-term handshake that we're not going to let Armageddon to happen. And then, when the new Congress takes office, they start working on a longer-term plan."

(Additional reporting by Sam Forgione and Steven C. Johnson; Editing by Andrew Hay and Edmund Klamann)

(For other news from Reuters Global Investment Outlook Summit, click here)

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