Investors are rejoicing as U.S. officials have a tentative agreement to raise the national debt ceiling -- the limit on the borrowing the U.S. government is allowed to engage in in order to pay its bills.
But the consequences of raising this artificial limit will be wide ranging, according to Otavio Costa, portfolio manager at hedge fund Crescat Capital.
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Once the debt agreement becomes official, the government must issue debt "promptly" -- through treasuries -- in order to keep operating, Costa explained.
"In the past, the lack of inflation concerns, the foreign investors' demand for Treasuries, the absence of bank failures due to these instruments and the Fed's ultra-dovish stance allowed the market to smoothly absorb the growing debt supply without significant disruptions," Costa said.
But now that the Federal Reserve has pumped trillions into the economy to fight inflations, the issuance of more treasuries is causing upward pressure on long-term interest rates.
All of this creates an interesting environment for investors.
"Investors are beginning to recognize that the true risk this time around lies not in the failure to reach an agreement, but rather in the escalating and concerning nature of the debt problem. This problem is further amplified by the diminishing availability of Treasury buyers," Costa said.
On Sunday, President Joe Biden announced that lawmakers have reached a bipartisan deal to raise the debt limit and the bill is expected to be voted for in the House of Representatives on Wednesday evening.
U.S. stocks were mostly muted on Tuesday ahead of the deal, but could make big moves if a significant development happens between now and the vote on the proposed deal this week.
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