Standard & Poor's on Friday raised the pressure on debt negotiators in Washington, saying it could downgrade insurers, securities clearinghouses, mortgage agencies and a laundry list of other firms without a deal soon to lift the debt ceiling and cut the deficit.
While S&P had already made clear it could downgrade the United States' sovereign credit rating, the Friday move struck directly at the heart of the financial system, raising the prospect of knock-on effects should the country exhaust its ability to borrow to pay bills.
The Treasury took the last available step Friday to try and extend that borrowing capacity.
S&P on Friday put on review for possible downgrades a range of powerful financial firms -- many of them little known to the public but crucial to the country's financial infrastructure. U.S. government securities are central to the operations of most of the companies cited.
They include the Depository Trust Co, which facilitates payment transfers among major banks, as well as several Federal Home Loan Banks and Farm Credit System Banks. They also singled out Fannie Mae and Freddie Mac, the two government-sponsored enterprises that are central to the residential mortgage market.
S&P characterized its targets as "entities with direct links to, or reliance on, the federal government."
Separately, the agency said the four remaining U.S. nonfinancial companies with triple-A ratings were not affected by the downgrade threat.
"S&P is firing a warning shot, saying the entire financial clearing system is in question," said Peter Niculescu, a partner at Capital Markets Risk Advisors, a risk management advisory firm in New York.
He raised the prospect of a financing squeeze for financial institutions if Treasury debt is downgraded. S&P said Friday it still sees the risk of default as "small, though increasing."
Nik Khakee, an S&P analyst who worked on the team assessing the clearinghouses, emphasized that the decline for the triple A-rated companies from "outlook negative" to "creditwatch negative" -- signaling a 50 percent chance of a downgrade within three months -- directly follows a similar change for the debt of government securities.
Earlier this week, Moody's also put its U.S. credit rating on review for a possible downgrade.
Some investors downplayed the chances of a severe market reaction if the United States is downgraded, given that the market has known this could be coming.
"Do you think China is going to sell all their Treasuries when they find out the ratings are lowered? They know the situation, they've known it all along," said James Melcher, founder and president of Balestra Capital Ltd, a global-macro investment manager based in New York. "They cannot sell a significant amount of their Treasuries without running interest rates up to 20 percent or more; they would be shooting themselves in the foot."
ONUS ON WASHINGTON
Many of the firms put on review for a possible downgrade were quick to turn the focus back on President Barack Obama and the congressional leaders trying to hash out a deal to stave off a debt default.
"Whatever happens will have nothing to do with us, and everything to do with Washington. The hope on everyone's part is obviously that Washington gets its act together so that both their rating and ours can remain where they belong -- at AAA," said Patrick Korten, a spokesman for insurer Knights of Columbus, which was included on the negative watch list.
A spokesman for Goldman Sachs, parent company to Goldman Sachs Mitsui Marine Derivative Products LP, declined to comment. A spokesman for New York Life said S&P told it no financial institution can carry a higher rating or outlook than its sovereign rating, and that the insurer believes its rating to be fully justified.
Northwestern Mutual said it remained "completely confident" in its financial strength.
Other insurers on the list were not immediately available to comment.
Another broad group in S&P's sights is the clearinghouses, which guarantee contracts tied to everything from oil contracts to shares of Google Inc and are critical to U.S. financial market stability.
"It's not unexpected and we don't see this as a reflection on how OCC conducts its business," said Jim Binder, spokesman for the Options Clearing Corp, which clears U.S. options or futures for 14 exchanges. "It's all about what's going on in Washington."
The U.S.-based Depository Trust & Clearing Corporation, which provides custody and asset servicing for more than 3.6 million securities issues from the United States and 121 other countries and territories, valued at $33.9 trillion, said the S&P action was expected.
"Changing the outlook on various financial institutions is common practice for ratings agencies when the outlook on a sovereign is changed," DTCC said in a statement. DTCC runs the National Securities Clearing Corporation and the Depository Trust Company.
Freddie Mac also declined to comment. Fannie Mae did not immediately respond to requests for comment.