Sell Or Hold? Game Theory May Offer Clues About Wall Street's Tremendous Resilience To Debt Ceiling Crisis

Game theory may offer some clues to Wall Street's tremendous resilience to the ongoing debt ceiling crisis that has continued into the fourth week of May despite the Treasury Department's repeated warnings that it may run short of cash as early as June.

"Investors shouldn't be seeking to game the politicians into a solution — that is a risky and uncertain proposition at best," wrote Citigroup analysts led by Nathan Sheets, according to a Bloomberg report.

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"Rather, with or without an immediate market response, the debt ceiling brings heightened economic and financial uncertainty and other pressures. And investors are well-advised to respond to that reality, as dictated by their investment horizons and appetite for risk," they said.

Investors could unload risk assets and force negotiators into a deal but then immediately regret the sale, the report explained. However, holding tight could lead to a stand-off that craters the economy and markets.

Price Action: The debt ceiling crisis still remains unresolved even after Monday's meeting between President Joe Biden and House Speaker Kevin McCarthy. McCarthy said the meeting was ‘productive,' but asserted more work needs to be done.

Despite the crisis, the S&P 500 and the Nasdaq Composite are currently trending close to their peak levels in nine months. The SPDR S&P 500 ETF Trust SPY closed 0.04% higher on Monday while the Invesco QQQ Trust Series 1 QQQ gained 0.34%, according to Benzinga Pro.

Lori Calvasina, head of U.S. equity strategy at RBC Capital Markets told Bloomberg that since 2011, a meaningful stock-market decline has typically been needed to force policymakers to come to an agreement.

Those declines have ranged anywhere between 5-6% to 10-19% during a period which she calls "higher-drama years." "If Washington does manage to get a deal done, this will likely remove a key downside risk for the stock market and is likely to cause the bears to quiet down," Calvasina wrote in a note.

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