How to guide clients through a government shutdown

With a federal government shutdown approaching on Oct. 1 in the absence of a budgetary agreement in Congress, financial advisors could be fielding a lot of questions from clients.

A bipartisan Senate bill that would keep the government open through Nov. 17 stands little chance of passing the House of Representatives, where a slim Republican majority led by Speaker Kevin McCarthy has yet to find a path forward among themselves or with Democrats. The wealth management impact of a shutdown revolves around potential frozen pay for millions of federal employees with furloughs for non-essential workers and stoppages in public services, as well as the implications to portfolios already ailing from a September swoon in stock values.

"If you look at the stock market in history, government shutdowns have been pretty small bumps in the road," said Callie Cox, a U.S. investment analyst with digital investing and social app eToro. This one coincides with rising oil prices and interest rates, though, Cox noted in an interview. "A lot of these worries are really front and center for the average investor, and I think financial advisors need to remember that," she added. "Clients are worried about what they hear and what they see in real life. It's a really good time to step in and check on your clients."

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The shutdown "would directly reduce growth" by about 0.2% a week, according to an analysis earlier this month by Goldman Sachs, which also noted that "markets have not reacted strongly" to past government closures. As a "credit negative" for the country's debt rating, the stoppage "would demonstrate the significant constraints that intensifying political polarization continue to put on U.S. fiscal policy-making during a period of declining fiscal strength, driven by persistent fiscal deficits and deteriorating debt affordability," according to Moody's Investors Service.

"The economic impact of a shutdown would likely be short-lived and concentrated in areas with a large government presence, with limited ramifications for the broader U.S. economy and GDP growth," the ratings agency wrote in a Sept. 25 note. "The most direct impact would be through lower government spending, with an immediate impact on consumption and spending by affected federal workers and contractors. Most of the hit to consumption would be temporary and reversed once the government reopened. However, the longer the shutdown persists, the more negative the potential impact on the broader economy. A prolonged shutdown would likely be disruptive both to the U.S. economy and financial markets."

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On the one hand, advisors should remember that "spending on Social Security, Medicare, unemployment benefits and payments for interest on the debt continue during a shutdown," according to a Sept. 26 commentary by Gene Goldman, the chief investment officer of Cetera Financial Group's asset management arm, Cetera Investment Management. On the other, investors may see a "cumulative effect" from higher energy prices, a restart in student loan payments, and California taxes coming due in the middle of next month, Goldman wrote.

"Perhaps the biggest impact could be due to credit agencies putting the U.S. debt on negative credit watch," he said. "Fitch [Ratings] already downgraded the U.S. debt in September due largely to the debt ceiling debates. Failing to pass a spending bill on time could cause bond yields to rise further and increase borrowing costs for potential homeowners and businesses. A shutdown would also impact the Fed as government data would be delayed if government agencies were not working. The Fed has said repeatedly that it is data-dependent when it comes to formulating its monetary policy, so a lack of economic data could cause them to pause interest rate moves until it gets a better picture of the data."

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Advisors and clients "can take a lot of comfort" in the fact that no government shutdowns have led to an economic crisis since the 1970s, according to Cox. As a "classic leading indicator" of unemployment trends, the number of jobless claims as a percentage of the labor force remains "at a much lower level than we've seen in past recessions," she said.

Cox views the latest reminders that "bull markets can be uncomfortable, too" as a positive sign for the overall economy in that investors won't be blindsided by the volatility, she said.

"This is par for the course, this is the risk that you take on to get those returns," Cox said. "This is where you earn your keep, and this is where you can help your clients off the ledge."