The sun set last night and it rose again this morning.  Still, there is only a glint of sunshine in Washington as the dark cloud of the debt ceiling standoff continues to hang over Capitol Hill, casting a shadow that stretches from sea to shining sea.

Yesterday, the market was scared of that shadow and did a Punxsutawney Phil two-step back into its hole, which was dug a little deeper with a 2.0% decline in the S&P 500.

We have seen the market have bad days and bad weeks in recent weeks, with worries about the debt ceiling negotiations occasionally being mentioned as a catalyst for the weakness.  However, we have always seen it bounce back on the resolute belief that a solution will inevitably be reached ahead of the August 2 deadline -- a deadline, incidentally, that the Treasury Department indicated yesterday still stands.

The action yesterday, though, had a different feel to it, as a new level of angst kicked in that maybe, just maybe, a deal doesn't get done in time.  The anxiousness built throughout the day with fluid reports about the steadfast positions of the Republican and Democratic parties on their plans to deal with raising the debt ceiling and to avoid default.

In other words, it was more of the same with plenty of ideological chatter and no compromises between the parties and possibly no compromises within the fractious Republican party.  On the latter note, House Speaker Boehner's plan is expected to be voted on by the House today, although Senator Reid has already said it won't pass the Senate. 

So, there you go.  It is shaping up to be another day for dunces and denunciations that will keep the market's feet to the fire on the debt ceiling/deficit reduction issue that is very much a ticking time bomb.

The timing aspect is why yesterday in particular had a different feel to it.  In the past, the market felt as if it had time on its side, but the hourglass is starting to empty more quickly now.

What was once a matter of complacency is quickly turning into a matter of contempt for the market, which we fear is starting to play politics itself with the selling interest seen this week.  That is, it is sending a message to Capitol Hill that it doesn't like what it is hearing.

Up to this point, the market's seeming resilience has enabled politicians to remain entrenched in their partisan views.  Further selling interest could change that, meaning the market itself could catalyze a compromise.  That also means, however, we could see things get a lot worse in the equity market before they get better.

To be sure, they are destined to get a lot worse if nothing gets done in Washington before August 2. 

Policy risk looms large then for our market outlook. If the stalemate persists beyond August 2, relative value arguments will need to be tabled since earnings prospects will be very much in question should there be an immediate and sharp cutback in government spending.

This is a time to ensure investment portfolios can weather the storm that will come if the dark cloud over Washington opens up and rains on the country with partisan divide.  The clock is ticking and the forecast still doesn't look good at this point.

Shifting gears, the latest initial claims report brought a measure of good news.  Claims for the week ending July 23 dropped by 24,000 to 398,000.  That is the first week below 400,000 since early April; importantly, there were no special factors behind the improvement.

The initial claims reading gave the futures market a boost, which had been languishing over the debt ceiling impasse.  The S&P futures are up two points at this juncture and trading slightly above fair value.

--Patrick J. O'Hare, Briefing.com

Patrick J. O'Hare is the Chief Market Analyst for Briefing Research, Briefing.com's institutional research service. To request a free trial please email researchsales@briefing.com.