To The Moon

The Impact of Moody's Downgrade: Fiscal Policy Pressure Increases as Demand Falls in Treasury Bond

Moody's late Friday cut its (link), downgrading the nation's credit rating from Aaa to Aa1, which has renewed concerns about the size of the nation's budget deficit, even as a bill to further widen the deficit is being considered by the chambers on Capitol Hill.

As investors await the final form of the bill,Wells FargoThe Wells Fargo Investment Institute (WFII) has released a note covering what it believes are the key takeaways for investors from the downgrade.

First, the Wells Fargo Investment Institute research team, led by bond analyst Jon North, was quick to point out that Moody's took the action, citing "failure to increase revenue or structurally cut spending" and "continued rise in the Treasury debt and interest payment ratios," bringing its rating in line with the other two major rating agencies — S&P and Fitch — which downgraded U.S. sovereign credit ratings in 2011 and 2023, respectively.

The WFII expects the downgrade to have little impact on markets, saying that "the risk of a fiscal crisis appears to be low", but it added that the resulting upward pressure on Treasury Bond yields, which serve as the reference for most U.S. borrowing, "could also raise interest rates on consumer loans, including mortgages and credit cards, with an impact on households and businesses".

Other adverse effects of the downgrade include a decline in global appetite for U.S. Treasury Bond. WFII said, "While demand for Treasury Bond is likely to remain strong, we believe that the decline in foreign appetite in the wake of President Trump's tariff announcement — which is already evident — could exacerbate fiscal pressures."

"Politically, the downgrade could be seen as a setback for the Trump administration, adding to the debate over fiscal policy," North and his team wrote.

As a guide to fixed-income investors, WFII prefers medium-term maturity notes (3-to 7-year notes), which it believes will "provide attractive yields and reduce maturity exposure".

(Stephen Culp)

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