Need to Know: The U.S. is downgraded. How much does it matter to markets? And the surprise asset that may benefit.

“The rating downgrade of the United States reflects the expected fiscal deterioration over the next three years, a high and growing general government debt burden, and the erosion of governance relative to ‘AA’ and ‘AAA’ rated peers over the last two decades that has manifested in repeated debt limit standoffs and last-minute resolutions,” said Fitch.

It was hard to disagree with this assessment: “In Fitch’s view, there has been a steady deterioration in standards of governance over the last 20 years.” Or this one: “Over the next decade, higher interest rates and the rising debt stock will increase the interest service burden, while an aging population and rising healthcare costs will raise spending on the elderly absent fiscal policy reforms.”

The chief marketer of U.S. Treasury securities, of course, didn’t like the decision. Treasury Secretary Janet Yellen said the move “does not change what Americans, investors, and people all around the world already know: that Treasury securities remain the world’s preeminent safe and liquid asset, and that the American economy is fundamentally strong.”

There was a reaction in financial markets focused primarily on stocks, which already had shown signs of cooling after a sensational five-month run. In fact, there was greater, not diminished, demand for the 10-year Treasury.

The last time the U.S. was downgraded, by S&P in 2011, Treasurys also caught a bid, as the yield on the 10-year Treasury
BX:TMUBMUSD10Y
fell. “Their ratings are not why anyone buys U.S. Treasurys. U.S. Treasurys are often mandated directly or included with other government backed debt in mandates. The downgrade by Fitch is a non-event for yields,” says Peter Tchir, head of macro strategy at Academy Securities.

Guy LeBas, chief fixed income strategist at Janney Montgomery Scott, said investment funds have rewritten their prospectuses to refer to government securities, not AAA-related debt, after the S&P downgrade. The Basel bank capital rules treat Triple-A and AA- in the same category for risk-weighted assets. So it’s not likely there will be many forced sellers of Treasurys now that a majority of the three rating agencies agree the U.S. is no longer Triple-A rated.

The quants at JPMorgan calculate that each notch of ratings downgrade across all three agencies tends to cheapen 5-year Treasurys by 8.4 basis points. So, all else equal, a ratings downgrade by one agency equals not even 3 basis points of weakening. Big deal.

So is it a non event? Well, look again at 2011 performance, and the one asset that benefited: gold
GC00,
+0.45%.
“Although back in 2011 gold went up largely due to lower rates, if I had to pick an asset that might benefit from the 2023 Fitch downgrade, gold would be my choice,” says Kevin Muir, a former institutional equity trader and author of the Macro Tourist blog.

Gold was higher in early action Wednesday, as was the asset sometimes called digital gold: bitcoin
BTCUSD,
+1.08%.

The markets

As noted above, U.S. stock futures
ES00,
-0.49%

NQ00,
-0.72%
slumped. That streak of 47 sessions in which the S&P 500
SPX
has not dropped more than 1% is on the line on Wednesday. (According to Toggle AI, during the 10 similar streaks since 2005, the market was up 70% of the times one month later, with performance ranging from -1.3% to 4.4%.)

For more market updates plus actionable trade ideas for stocks, options and crypto, subscribe to MarketDiem by Investor’s Business Daily.

The buzz

As if there is not enough news in the bond market, the Treasury is making its quarterly refunding announcement. ADP’s estimate of private-sector payrolls is due at 8:15 a.m. Eastern.

Tuesday’s after-hours results saw Advanced Micro Devices
AMD,
+2.80%
report better-than-expected results, while Starbucks
SBUX,
-0.31%
reported same-store sales below expectations.

Wednesday sees results from Kraft Heinz
KHC,
-0.83%,
CVS Health
CVS,
-0.99%,
and after the close, MetLife
MET,
-0.24%
and PayPal
PYPL,
-0.38%.
Private-equity group Carlyle
CG,
-0.56%
saw its stock drop sharply after swinging to a loss in the second quarter as revenue fell 56%.

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