Analyzing the impact: Historical perspectives on U.S. Treasury downgrades

What is the expected impact of the U.S. Treasury downgrade by Moody’s after the market close on May 16?

We have two examples of recent U.S. credit downgrades to gain insight, though each environment was quite different from the current situation. The August 5, 2011, downgrade by S&P was mired down by risks of global economic malaise and the European Union (EU) crisis. In August 2023, the downgrade by Fitch was driven by perceived risks of a second inflation wave and monetary policy error.

The common thread is that downgrades are generally perceived as “bad news”, but these examples suggest the consequences may be “not too bad”, with the S&P 500^® Index falling just 2% over the next month in both instances. A slight uptick in U.S. credit risk is far from a left-tail shock.

It is surprising to note, however, the opposite reaction of U.S. Treasuries to both events. In 2011, the downgrade was another cloud on the growing list of clouds casting a shadow on economic growth, especially outside the U.S. given the eurozone crisis. That downgrade facilitated and sped up a significant rally in what was still considered the world’s “safe haven” asset: U.S. Treasuries. In that rally, the yield on the 10-year U.S. note fell 50 basis points (bps). Reinforcing the appetite for U.S. debt were credit default swaps (CDS) on Treasuries narrowing 10 bps. In contrast, in 2023, with inflation a significant risk, U.S. debt was emphatically not considered a safe haven, and U.S. rates rose 19 bps following the downgrade, with U.S. CDS widening by 10 bps.

It is important to keep in mind that each of these downgrades occurred in August, when market liquidity is typically somewhat compromised, so the market moves may have been sharper than they would have been at a different time of year.

Last week’s downgrade by Moody’s is the last of the downgrades by the “Big Three” credit rating agencies. It was well known that the Moody’s downgrade was in the works, with the agency having placed U.S. Treasuries on warning on Nov 10, 2023.

What consequences do we expect with the downgrade of U.S. debt? 

1. With the downgrade likely already well anticipated, we do not expect the announcement to be a material risk event.

2. Any large market reaction likely presents an opportunity to provide liquidity and earn a liquidity premium on subsequent mean reversion.

3. Today’s macro environment is more comparable to the environment during the 2023 downgrade than the 2011 episode, when bleak economic growth was feared and inflation was nowhere to be found. Therefore, if if historical precedent holds true, the market response will likely be similar to that of 2023.

4. U.S. Treasuries have not been behaving as a safe haven recently. Should they rally (yields fall) on this bad news, it will be strong evidence that global investors still consider U.S. sovereign debt a – or the – safe-haven asset.

U.S. 10-year Treasury rate and S&P 500 moves following downgrades

August 5, 2011: S&P downgrade

• Downgrade was well anticipated, yet rates sold off 16 bps the day of – an overreaction by the uninformed.
• Occurred in a period of great uncertainty with EU crisis.
• German rates also rallied in the aftermath, but less so than U.S. rates, as U.S. Treasuries were considered the safe haven.

	One week before	Day of	Next day	Next week	Next two weeks	Next four weeks
U.S. 10-year Treasury rate	-24bps (2.8% to 2.56%)	+16bps (2.40% to 2.56%)	-24bps (2.56% to .32%)	-31bps (2.56% to 2.25%)	-50bps (2.56% to 2.06%)	-57bps (2.56% to 1.99%)
S&P 500 move	-7.2%	-0.6%	-6.7%	-1.7%	-6.3%	-2.1%

 

August 1, 2023: Fitch downgrade

• Occurred in a period of strong economic growth but still very high inflation that had fallen from higher levels.
• Second wave of inflation primary concern, and bonds were not considered a safe haven.
• Downgrade was not much of an event as inflation was front and center.

	One week before	Day of	Next day	Next week	Next two weeks	Next four weeks
U.S. 10-year Treasury rate	+13bps (3.89% to 4.02%)	+6bps (3.96% to 4.02%)	+6bps (4.02% to 4.08%)	0bps (4.02% to 4.02%)	+19bps (4.02% to 4.21%)	+10bps (4.02% to 4.12%)
S&P 500 move	+0.21%	-0.27%	-1.4%	-1.7%	-3.0%	-1.7%

Source: Bloomberg, Janus Henderson, as of May 17, 2025.