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On Friday, the Moodys pulled the trigger and stripped the US from their final top rating. We have downgraded 1 notch from AAA to AA1.
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But is that important?
We looked into the meaning of downgrade a few months ago when Moody’s seemed determined to ignore the 60-foot flashing neon sign on the wall.
Who knows from a stock market perspective? When the transaction begins on Monday, we don’t know if it matters or how much money there will be. Certainly, the S&P’s US sovereign downgrade in August 2011 prompted the worst day of US stock prices since the (certainly the recent) global financial crisis. However, the market quickly recovered. This may have been people who were surprised at what downgrades mean for financial plumbing.
So, is downgrades important for financial plumbers this time? From a mechanical perspective, the answer is almost certainly “not at all.”
Banks’ risk-weighted capital asset calculations appear to be unlikely to be affected by changes in ratings. This is because regulators do not tend to distinguish between AAA and AA1 when setting capital risk weights. For example, this is how BIS is applied to individual claims to calculate risk-weighted assets in relation to sovereigns, so it sets up a standardized approach to credit risk risk.
Moody’s could have done three notch downgrades, from AAA to AA3.
How about collateral management? A note from Barclays on Friday night looked into the meaning.
For collateral purposes, downgrading AA1 is ineffective. For example, DTCC and CME refer to asset classes as the US Treasury, and haircuts are functions of maturity and security type (TIPS/FRN), but with no ratings. In LCH, it is unlikely that a downgrade to AA1 will lead to changes. For example, UST and GILT have similar haircuts, with the latter being rated as low.
Furthermore, they believe that this movement does not trigger the movement at the short edge of the curve.
Laws since the financial crisis have reduced the use of explicit valuation guidelines in investment delegation.
Therefore, they do not expect a wave of asset sales from the city from 4.5 tons of the Treasury and Treasury money funds.
When you leave the financial markets, downgrades may be important to Moody himself. Whatever your 2011 S&P Global Ratings experience, the company will be taking part in rough rides. Following the S&P downgrade over a decade ago, U.S. Treasury Secretary Tim Geytner threw a bit of wobble, and filmmaker Michael Moore called on Obama to arrest the company’s CEO. As I wrote in March:
Someone hired a plane to pass the rating agency’s office and dragged the banners declaring they should all be fired, and many local governments have ended their business with the company.
Meanwhile, and clearly unrelated, the Department of Justice has launched an investigation into the S&P. Within a few weeks, CEO Deven Sharma left the company. When things moved from a mere investigation to an actual $5 billion federal lawsuit for banks that mislead the credibility of their ratings before the 2008 financial crisis, S&P called this direct retaliation to its downgrade.
Following the downgrade, Moritz Kraemer wrote on LinkedIn that former Global Chief Ratings ratings head of Sovereign Ratings – the dangers of retaliation are realistic.
In the United States, rating agencies are regulated and licensed by the Securities and Exchange Commission (SEC). As things stand in America today, we must wonder whether the SEC can act independently of the White House wishes. Don’t forget that former SEC chairman Gary Gensler resigned on his inauguration day and made the path for Trump Acolite. Trump is very furious about the US downgrade (he will certainly take something personal), and he will demand his body and impose revenge on the Moodys.
We’ve seen the White House reject the analysis and assault Moody’s chief economist, Mark Zandy. “No one takes his ‘analysis’ seriously,” said Stephen Chung, the president’s assistant. He’s proven wrong over and over again.”
As reported in Mainft, Zandi is not the author of this report, but works in Moody’s analysis. This is another part of the company that is not part of its valuation business.
More generally, one notch downgrade from AAA may not have a major impact on the market, but that is still important.
Financially, Moody’s has long been projecting indicators near basket cases to the US. In reassessing the AAA rating in March, he wrote that the country’s AAA ratings are instead leaning towards “an extraordinary economic strength and the unique and central role of the dollar and the Treasury bond market in global finance.”
And in a previous rating report that reconfirms the AAA rating in November 2023, Moody’s wrote:
Weakening institutional and governance strength, such as financial and macroeconomic policy effects and degradation of legislative and judicial institutional quality, can also strain ratings.
The world has been moving since 2023, and Moody’s is heading towards the market.
