Markets yawn at debt ceiling risk

After weeks of warnings about looming financial doom, markets still don't seem worried about a default.

Why it matters: It means those most directly exposed to the supposedly drastic downside of an unresolved debt ceiling fight are taking the dire predictions — or the risk of defaulting itself — with a heaping helping of salt.

The latest: Treasury Secretary Janet Yellen warned Wednesday of the potential for "substantial financial market distress" as negotiations drag on.

• Yellen maintained that the Treasury could run out of cash to pay all its obligations as soon as June 1.
• And Wednesday evening, Fitch Ratings warned that the country's AAA rating could be downgraded, citing the rising risk "that the government could begin to miss payments on some of its obligations."

Context: For weeks, passing references to the conflagrations that would follow a debt ceiling debacle have been a prominent news leitmotif.

• "The United States could default on its obligations for the first time in history, potentially tipping the nation into recession and plunging global financial markets into chaos," the Washington Post reported (emphasis ours).
• "Economists and investors widely believe a default would send shock waves through the global economy and financial markets," the Associated Press reported.
• "White House and Republican negotiators have been circling around the same set of issues — chief among them the duration and size of cuts to the federal budget — in an effort to avert a possible economic catastrophe that could come as soon as June 1," the New York Times wrote.

Yes, but: The financial scoreboards aren't registering much in the way of chaos and catastrophe. At least not yet.

• Stocks are sitting on gains of 7% for the year.
• The stock market's "fear gauge," the VIX, is hovering around 20, well below levels that have telegraphed serious market jitters.
• True, investors are avoiding the Treasury bills set to mature around the June 1 deadline, so those securities are trading with abnormally low prices.
• But there's no sign of a buyers strike aimed at Uncle Sam's bonds.

What they're saying: "In the unlikely event of a technical default, we think front-end yields would decline materially, as markets incorporate expectations of more aggressive Fed easing," JPMorgan bond market analysts recently wrote.

• Translation? JPM thinks investors will respond to a default on U.S. Treasury bills by, uh, buying more U.S. Treasury bills.

• It's notable that some of the best-informed analysts on Wall Street think this "flight to safety" dynamic — when buyers rush to buy Treasuries in the face of a shock — will endure, even when the source of the shock is actually Treasuries themselves.

Flashback: That's not to say that if we get to default — or even start to seriously look like we will — the markets will completely ignore it.

• In the summer of 2011, the last time Congress played serious debt-ceiling footsie, the stock market felt it. The S&P 500 dropped 19%.

A wild card: The prospect of an actual missed payment on Treasury bills could be an issue for the often invisible "plumbing" of the financial markets, where Treasury bills are used as a key source of collateral. (To get into the weeds on this, read Matt Levine over at Bloomberg.)

• And a downgrade of the U.S. government's credit rating could play out in hard-to-predict ways, potentially forcing some to dump Treasuries.

The bottom line: For now, the markets are shrugging off the idea of a default. But there's no guarantee they'll continue to.

• In fact, one way to read to current markets is that investors simply don't think elected leaders are going to seriously contemplate the D-word.
• If that changes, markets can always fall to pieces — fast.