Taking a closer look at the US downgrade in credit and market reactions

Special to the Sarasota Herald Tribune

(June 2, 2025) Moody’s Investors’ Services downgraded United States debt from Aaa to Aa1 on May 16 (Moody’s has rated US debt Aaa since 1919). While these days you can’t say anything is a certainty, we certainly would not characterize the downgrade as a surprise.

This follows the downgrade by Fitch Ratings from AAA to AA+ on Aug. 1, 2023, and more importantly, the downgrade by Standard & Poor’s from AAA to AA+ almost 14 years ago on Aug. 5, 2011. Market reactions have differed greatly. 

Normally, when a credit is downgraded, yields rise at the margin and prices drop (relative to other bonds). In August 2011 the reaction was counterintuitive. Yields fell sharply, as the U.S. was still considered the safe haven and the sentiment towards Congress was that it was dysfunctional and unable to agree on a fiscal path. Therefore, the markets reached for the world’s most liquid asset (which had been downgraded). Risk off was prevalent in the stock markets as well. The S&P 500 dropped 6.7% on that Monday, Aug. 8, and by early October was down 8.4% from the pre-downgrade level. However, soon after, the stock market began to rise, buoyed by a Federal Reserve which gave forward guidance that they would keep interest rates low. The S&P 500 finished the year +4.8% from the pre-downgrade level. Clearly, investor expectations mattered and the Fed policy did as well, as there was no logical alternative at the time to U.S. Treasuries as a safe haven. This kept bond yields low and helped equities recover.

Click here to continue reading the article on the Sarasota Herald Tribune website. 

John R. Mousseau, CFA
Vice Chairman | Chief Investment Officer
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