Plunge off fiscal cliff a more likely than you think, strategist says

The chances that the U.S. will careen off the fiscal cliff at the end of the year are a lot better than everyone thinks, according to Russ Koesterich, global chief investment strategist at BlackRock Inc.'s iShares. “Most investors are expecting a last-minute compromise and a can-kick down the road,” he said today at the Morningstar Inc. ETF Invest Conference in Chicago. “From the conversations we've had with politicians, there's a better than 50/50 chance we go off the cliff, but hopefully, it's a small drop.” Failure by Congress to agree on what to do with the scheduled end of the Bush tax cuts will trigger automatic spending cuts, slated to kick in at the start of the new year, which could crimp first-quarter economic growth by 4%. That would be the largest fiscal drag since World War II. With GDP growth already expected to be low, the shock of falling off the cliff could lead to a recession, but no one is taking that threat seriously enough, Mr. Koesterich said. “The equity markets are not prepared to go over the cliff,” he said. “They're not putting a high probability on it happening.” None of the 76 economists surveyed by Bloomberg expect GDP to decline in the first quarter of 2011, for example, Mr. Koesterich pointed out. Mr. Koesterich isn't overly optimistic about the chances of avoiding the fiscal cliff because November's election is likely to produce a divided government. “That's not the best formula for fixing the fiscal cliff,” the strategist said. Still, he doesn't recommend ditching equities, even though the uncertainty around the fiscal cliff increases the risk of a black-swan-like event. Instead, he suggests focusing on low-volatility strategies and dividend-paying mega-cap stocks. He's also bullish on the “CASSH” countries — Canada, Australia, Switzerland, Singapore and Hong Kong — because they've emerged from the financial crisis without the fiscal or political problems most of the developed world is facing now.