"U.S. Government Shutdown" Trading Guide: Duration is Key, Gold and Silver are More Defensive

The U.S. federal government has once again "shut down" after nearly seven years, bringing new uncertainties to the financial markets.

According to data from the well-known prediction market Polymarket, nearly 70% of users believe that the government shutdown will last until at least October 10, with 41% of users expecting it to continue at least until late October.

According to news from the Wind Trading Desk, Citigroup analyst Vinh Vo and his team pointed out in their latest research report that the duration of the shutdown is key to determining asset performance, and the market's current pricing of this shutdown may be overly optimistic, ignoring the significant impact that a prolonged deadlock could bring.

Historical data shows that a long-term shutdown will lead to a clear divergence in the performance of stocks and bonds, and increase market volatility. In such scenarios, precious metals like gold and silver are more reliable safe-haven assets than the U.S. dollar.

The report also noted that a new variable in this shutdown is that the Trump administration has instructed various agencies to consider permanent layoffs, which could have a more destructive economic impact than the previous practice of simply putting government employees on leave and later reimbursing their salaries, although specific details remain unclear.

Despite the uncertainties brought by the government shutdown, Citigroup believes that this event is unlikely to reverse the overall momentum of U.S. stocks and bonds. The report states that the "strong optimism" surrounding artificial intelligence, combined with a more accommodative monetary policy backdrop from the Federal Reserve, is a key force supporting the market.

On the Eve of a Long-Term Shutdown, U.S. Stocks Fall, U.S. Bonds Rise

Citigroup's research reviewed ten historical government shutdown events and found that the duration of the shutdown is key to determining asset performance.

The report categorizes shutdowns lasting less than five days as "short-term events" (6 instances) and those lasting more than five days as "long-term events" (4 instances).

Historical data shows that during long-term shutdowns, the U.S. stock market typically begins to sell off before the event occurs and rebounds within 10 to 15 trading days after the shutdown begins.

In contrast, U.S. Treasury bonds exhibit the opposite trend, showing a significant safe-haven rally before the event.

In comparison, short-term shutdowns have a less significant impact on the stock market, and U.S. bonds only show slight fluctuations around the time of the shutdown. Citigroup points out that the current market trend is more in line with expectations for a short-term shutdown

Volatility Rises, Individual Stocks Under Pressure from Risk Exposure

Government shutdowns almost always accompany an increase in market volatility. Reports indicate that during long-term shutdown events, the VIX index, which measures stock market volatility, steadily rises and slowly dissipates after the shutdown ends. In contrast, the rise in bond market volatility is shorter.

For specific stocks, companies with direct or indirect revenue ties to the government will face greater pressure. Historical analysis shows that during past shutdown events, particularly the long-term shutdown in December 2018, baskets of stocks directly serving government business significantly underperformed the S&P 500 index, only rebounding after the deadlock was resolved.

The report states that although the current performance of related stocks is somewhat volatile and there is no obvious downward trend, the downside risk warrants attention if the shutdown extends.

Safe-Haven Asset Choice: Gold Outperforms the Dollar

When seeking to hedge against shutdown risks, investors may need to reassess traditional choices. Citigroup points out that during long-term shutdowns that heighten market concerns, gold and silver have historically proven to be more reliable hedging tools than the dollar.

Data shows that during long-term shutdowns, as uncertainty increases, gold typically receives buying support, averaging a 2% increase, and maintains strength after the shutdown ends. Silver also exhibits a similar but more volatile trend.

In stark contrast, the dollar index often performs weakly before and after the onset of a shutdown, which may relate to the crisis's "American-centric" nature. Only after a long-term shutdown is resolved does the dollar reverse its downward trend.