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 Dow Jones Industrial Average ( ^DJI ) was down about 0.1% in early trading while the S&P 500 ( ^GSPC ) and Nasdaq ( ^IXIC ) sank 0.3% and 0.3%, respectively. All three major averages quickly moved off their session lows. 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%.
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.
Wilson had been telling clients that lower interest rates could be another catalyst for stocks. But with the Federal Reserve likely not cutting interest rates soon and the Moody's downgrade further pressuring bond yields higher, Wilson sees improved earnings revisions as a key for a further rally.
"Upside progress through 6100 [for the S&P 500] in the near term is dependent on a continued reacceleration in earnings revisions breadth as interest rate relief remains elusive for now," Wilson wrote.
Josh Schafer is a reporter for Yahoo Finance. Follow him on X @_joshschafer .