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Investors Turn Cautious as Debt-Ceiling Fears Rise

BOSTON ( TheStreet) -- Investors are showing increasing concern over Congress's resolve to reach an accord on raising the debt ceiling by the Aug. 2 deadline and are showing that by selling stocks and building cash or gold positions, while others are waffling on Treasury bonds.

Their concerns stem from the congressional stalemate over raising the government's $14.3 trillion debt ceiling. Complicating matters is that as part of that, Congress and the White House also must agree to a deficit-reduction package to avoid a downgrade in the government's triple-A credit rating.

That sort of uncertainty creates volatility, which translates into larger price fluctuations that strikes fear into some investors but create buying opportunities for others.

Investors have gone back and forth on Treasuries this week, with some selling Treasury bills that were scheduled to mature within a few weeks. By Thursday, Treasury prices held on to modest gains after a sale of seven-year notes, which indicates that investors still have confidence in U.S. government debt. They sold at the lowest yield this year at 2.28%.

Many investors are heading for the sidelines and turning ultra-conservative. Gold futures reached a record $1,631 an ounce Wednesday amid concerns about the debt ceiling issues and the potential default of Greece on its sovereign debt.

Gold prices are expected to continue to rise until there's some resolution. Gold is up 14% this year, and is heading for its 11th straight annual gain.

The Standard & Poor's 500 Index is down 2% this week and down 1.2% in July, but is up 3.8% this year.

Standard & Poor's is sounding increasingly pessimistic over the resolution of the crisis and the potential repercussions. Its Investment Policy Committee warned in a report Thursday that "even though we still believe in 11th-hour miracles, we are beginning to feel like a boater attempting to restart an engine, while drifting ever closer to the falls."

The ratings firm cautions that investment strategists should not minimize "an adverse financial reaction should the U.S.'s (credit) rating be lowered, (by) rationalizing that the U.S. is still 'the safest bet on the planet.'"

Fidelity Investments' Dirk Hofschire, vice president of its Asset Allocation Research unit, wrote on the firm's website today that stocks are the most vulnerable to wild swings as the crisis drags on. "When uncertainty grows in advance of a potentially market-moving event, investors tend to gravitate toward less risky securities such as cash.

"Second, the impact of not raising the debt ceiling would be tremendously negative for the U.S. economy," he adds, as there is the threat of a double-dip recession.

But Morningstar analysts say they're "cautiously optimistic" for an outcome and note that "fundamentals are solid and there is still a great deal of cash on the sidelines that could move into the markets to fuel further gains" when a resolution is reached.
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