• MARKETS
  • October 8, 2013, 8:32 p.m. ET

Shutdown Stirs Investor Anxiety

By MICHAEL CASEYMIN ZENG

and CHRIS DIETERICH

EXAMPLE FROM FALL 2013 - THE POSSIBLE GOVERNMENT SHUTDOWN - CHECK OUT WHAT HAPPENED TO THE PRICE OF INSURANCE (CREDIT DEFAULT SWAPS)

Signs of investor anxiety multiplied on Tuesday, as the U.S. government shutdown stretched into an eighth day and traders jockeyed to profit from wagers on a U.S. debt default.

The rate the government pays to borrow for a month rose to its highest level in five years, WHY EXACTLY????? following a $30 billion Treasury bill auction that Bank of America Merrill Lynch head of U.S. rates strategy research Priya Misra deemed "awful." The cost of hedging for a year against a possible U.S. default via credit default swaps rose as much as 10%. The price of one-year U.S. CDS has risen 10-fold since Labor Day (5 weeks prior to when this article was written)

In the stock market, major indexes slid, with the Dow Jones Industrial Average marking its 11th drop in 14 trading sessions. The Chicago Board Options Exchange's Volatility Index—the stock market "fear gauge"—jumped to within a fraction of its highest level this year, reflecting rising demand for stock options affording protection from extreme price movements. The VIX is up 22% since the shutdown began Oct. 1.

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"I think the market is seriously beginning to worry about this," said Greg Peterson, director of investment research at Ballentine Partners, which oversees about $4 billion. The prospect of a U.S. default, however hard to imagine, is "a scary situation."

Many trading strategies centered on Oct. 17, the date on which the government is projected to run up against its debt limit. Few expect the government to default, but as the clock ticks down, many investors are expecting widespread fear will drive investors to dump stocks and other risky assets, as they did during the last debt ceiling standoff in August 2011.

Nancy Prior, president of Fidelity Investments' money-market fund group, says the unit of Fidelity Management & Research Co. has been selling some short-term U.S. debt and has avoided buying bills due at month-end.

"Now none of our money-market funds own any securities that would mature around that time," she said in an interview Tuesday.

The price of Treasury bills maturing on Oct. 31 tumbled, driving the yields up as far as 0.35%, the highest level since October 2008, before closing at 0.295%. WHY WERE YIELDS SO HIGH IN OCT 2008???

The yields on three-month, six-month and one-year Treasury bills remained lower, while the yield on the 10-year U.S. Treasury note was flat on Tuesday at 2.63%.

"The T-bill market is telling you that people are avoiding the short-term risk that the U.S. could delay interest payments," said Thomas Urano, portfolio manager in Austin, Texas, at Sage Advisory Services Ltd., which oversees $10 billion in assets including money-market assets. "Anxiety could rise further if there is still no deal in coming days."

The price of near-term options on the VIX has risen above later options, which traders said illustrates acute short-term concern.

Trading volume jumped in exchange-traded funds and notes tied to the VIX. The products are generally used to hedge against, or speculate on, bigger stock market declines.

The iPath S&P 500 VIX Short-Term Futures exchange-traded note was the second-most heavily traded exchange-traded product across all exchanges Tuesday, on volume that was the heaviest since June. The ETN's price has climbed 16% over the past six sessions.

"Everything is more volatile now," said Paul Weisbruch, vice president of ETF sales and trading at Street One Financial.

To be sure, the signs of anxiety stood out in financial markets remain generally sanguine. The Dow Jones Industrial Average is just 5.7% below its record close last month, and the VIX remains near its historical average. Gold prices were flat.

Still, even markets where trading was steady showed a hint of anxiety. The dollar, which has fallen 5% over the past three months, was slightly stronger Tuesday, with the WSJ Dollar Index rising 0.09 points to 72.35. The quiet action in currency markets, with market swings muted and volume light, pointed to a desire to reduce risk, some observers said.

The subdued market "shows that investors are backing off," said Marc Chandler, a strategist at Brown Brothers Harriman. "People are just not playing."

—Dan Strumpf and Cynthia Lin contributed to this article.

Write to Michael Casey at , Min Zeng at and Chris Dieterich at

A version of this article appeared October 9, 2013, on page C4 in the U.S. edition of The Wall Street Journal, with the headline: Stalemate Stirs Investors' Anxiety.