After the market close on Friday, credit rating agency Standard & Poor's made good on its threat to downgrade US debt. In lowering the long-term sovereign rating from AAA to AA+, S&P cited their view that "the effectiveness, stability, and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges . . .". Adding insult to injury, they left the rating outlook as negative, warning that they could lower it to AA within the next two years if they see fewer reductions in spending, higher interest rates or new fiscal pressures that result in higher than anticipated government debt levels.

Coming on the heels of the worst week in US equities since 2008 and an escalation of the European debt crisis, the global reaction on Monday was swift and brutal: the Dow ended the day down almost 635 points, or 5.5%, for its lowest close since last October. No international market was spared; European bourses such as Germany plunged 5%, Japan dropped 2% while emerging markets such as Brazil were hammered, closing down over 8% on the day. The CBOE Volatility Index (or VIX, commonly known as the 'fear gauge') spiked 50% to 48, its highest close since the low point of the previous bear market in March 2009.

Investors fled to the traditional refuges: gold, historically safe currencies such as the Swiss Franc, and ironically, the very instruments that suffered the downgrade, US treasuries. Gold has been a key beneficiary of the macro economic turmoil, gaining 22% for the year to trade at $1,738 and has risen every year for the past 10 years. Ten-year US treasury yields touched a record low of 2.03%, perhaps foreshadowing the risk of the United States following Japan and suffering its own lost decade or two.

It was evident before the downgrade that global growth was slowing, prompting many commentators to remark that the US was close to "stall speed" and at increased risk of a 'double dip' recession. Second quarter GDP came in at 1.3% versus consensus expectation of 2.7%. Indeed, revisions to first quarter GDP (lowered from 1.9% to an anemic 0.36%) and Q4 2010 (down from 3.1% to 2.35%) means that in real terms the US economy has not yet recovered to pre-2008 levels, perhaps never exiting the recession of two years ago.

The implications of the S&P downgrade of the world's reserve currency and largest economy are difficult to predict. One previous worry was that it could increase borrowing costs for Americans, derailing an already fragile economy. However, the flight to quality (and we use that term loosely) treasury bonds has actually lowered borrowing rates, at least temporarily. Moreover, as we write, the US equity markets are rebounding sharply (Dow up almost 430 points or 3.9%), aided by a pledge from the Federal Reserve to keep interest rates low at least through mid-2013.

We must also remember that both Moody's and Fitch (the other two major rating agencies) have affirmed the US's top rating, citing the dollar's status as the main reserve currency, an economy of unparalleled size and diversity as well as a government characterized by political and institutional stability. If a full blown recession for the US can be avoided then this all may have been a 'tempest in a teacup'; corporate balance sheets are very healthy and stock market valuations are fairly reasonable, more so after the declines of recent weeks.

Back on our shores, what does this mean for the Bahamian economy? The primary and perennial issue is whether the American economy catches a 'cold' that turns into 'pneumonia' here in our US-dependent land. Our long-awaited unemployment figures showed an official rate of 13.7% (statistical methodology notwithstanding), including a greatly enlarged informal and self-employed sector while excluding a 'discouraged worker' category equivalent to 6% of the labour force. However you define it, about 1 in 5 able-bodied ahamian men and women are not working. A renewed recession in the US is obviously bad news for our primary industry, tourism, with further negative spillover effects on business confidence, consumer spending and ultimately, crime.

The focus of S&P on growing government debt burdens combined with a dysfunctional political environment is also a 'shot across our bow' to get our own fiscal house in order to protect our dollar-peg, credit ratings and cost of borrowing for Bahamian businesses and consumers. As the debt debacle in the US and evolving crisis in Europe demonstrates, these are long-term issues of social security, healthcare and inter-generational transfers of wealth and that require a national, non-partisan debate to solve.

However, current global events do not necessarily mean your investing strategy should change. It is important to admit that as investors we cannot always trust our emotions: when we have had a bad experience, such as during 2008 or during the past month, we naturally try to avoid repeating the pain and remorse that losses entail. Yet, by setting a plan and sticking to it, we gain control over the emotional aspects of investing. We can often take advantage of the many opportunities these markets present simply by dollar cost averaging and continuing to invest during troubled periods in capital markets. At CFAL, we are constantly reviewing our portfolios to ensure we make them work even better in challenging times.

We always welcome your calls or your emails. At any point, if you wish to discuss this situation further, or review your plan, please do contact us at 242-502-7010 or by email at This e-mail address is being protected from spambots. You need JavaScript enabled to view it

Important Disclosures

This report is distributed to and intended for clients of Colina Financial Advisors Limited ("CFAL"). This report is for information purposes only and does not take into account an investor's specific investment objectives or risk tolerance. This report is not intended to be an offer or solicitation to engage in any securities trading or participate in investment services. All information, opinions and statistical data contained in this report were obtained or derived from sources believed to be reliable, however, CFAL does not represent that any such information, opinion or statistical data is accurate or complete and takes no responsibility for any reliance you place on information contained in this report. All forecasts, opinions and recommendations expressed are based on information as of the date of this report and are subject to change without notice. Some of the investments mentioned in this report may not be suitable for all investors. Recipients of this report should consider the information contained herein as only a single factor in making investment decisions and should not rely solely on any investment recommendations that may be contained in this report. Investors are advised to independently assess investments and should consult with a financial adviser before making any investment decision. Investors should be aware that changes in exchange rates may have an adverse effect on the value of and income from investments. The value of investments is also subject to volatility and could rise or fall dramatically. Investors may lose a portion of their initial investment as well as any gains earned during the investment horizon. CFAL accepts no liability for any loss arising from the use of information contained in this report. Past performance is not indicative of future results. CFAL makes no projection, representation or guarantee regarding future performance. Investors with questions relating to tax should consult with their tax advisers. CFAL does not provide tax advice and any reference to taxation in this report should not be construed as such. This report, in part or whole, may not be reprinted, sold, or redistributed without the written consent of CFAL.