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A Moody's downgrade of US credit sent stocks lower to start the trading week. But Wall Street strategists don't believe Monday's initial move implies a sustained downward trend.
Morgan Stanley chief investment officer Mike Wilson pointed out that the souring outlook from Moody's on US credit could weigh on bonds, making rising Treasury yields the primary concern for equity investors. And if the 10-year Treasury yield rises above 4.5%, that could cause weakness in the equity market, per Wilson.
"We would be buyers of such a dip," Wilson wrote.
Similarly, Fundstrat head of research Tom Lee called the credit adjustment a "non-event" and suggested to "buy the dip" if stocks experience any weakness in reaction to the downgrade.
On Monday, the S&P 500 (^GSPC) and Nasdaq (^IXIC) both opened lower by about 1% before quickly recovering losses. The S&P 500 was up about 0.1% while the Nasdaq was roughly flat. The Dow Jones Industrial Average (^DJI) inched higher by about 0.3%, or more than 150 points. Meanwhile, the 10-year Treasury yield (^TNX) rose nine basis points to 4.52%, and the 30-year Treasury yield added about 10 basis points to rise above 5%. Both yields moved lower as the trading session wore on with the 30-year falling to about 4.96% and the 10-year sliding below 4.5%.
The moves came after Moody's became the third major credit agency to downgrade US credit, dating back to 2011, late Friday afternoon. S&P lowered its rating in 2011, and Fitch did the same in 2023. Historically, though, these events haven't given much of a signal for whether the US economy is headed for recession or if a rough patch has started for the stock market.
"Both S&P and Fitch’s downgrades line up with longer term bull markets for US equities, showing that credit rating agency decisions have not provided any signal about the future direction of stock prices," DataTrek Research co-founder Nicholas Colas wrote in a note to clients on Monday morning.
Lee at Fundstrat points out that the release of Moody's downgrade doesn't actually provide much new insight on the ballooning fiscal deficit, which had already been a widely talked-about topic.
"There is no 'surprise' here as Moody's is citing facts we already know, the sizable US deficit," Lee wrote. "And we doubt any major fixed income manager is surprised. There is simply no incremental information here."
Importantly, the Moody's downgrade comes as investor sentiment had begun to shift in a more positive direction. Last week, a 90-day tariff pause between the US and China sent stocks roaring. The news, combined with a recent bounceback in corporate earnings revisions, has Wilson feeling positive overall about the direction of the equity market.