Financial advisors taking little mind of Moody's US downgrade

America's credit is perfect no more now that Moody's has finally downgraded the country's debt rating.

Not that financial advisors seem too worried about it.

Moody's cut its US credit rating to Aa1 from Aaa last Friday due to concerns over the country's rising debt obligations. Moody's was the last of the major three rating agencies to lower its grade, with Fitch Ratings downgrading the US in 2023 and S&P Global Ratings making the move in 2011. Moody’s downgrade ends a 108-year perfect rating from the firm.

Moody’s cut its rating after projecting the federal deficit will widen to nearly 9% of GDP by 2035, up from 6.4% in 2024. The US federal budget deficit in fiscal year 2025 is projected to be $1.9 trillion. That comes on top of an estimated federal debt of around $36.21 trillion.

For his part, Treasury Secretary Scott Bessent dismissed Moody's downgrade as a lagging indicator that reflects rising debt under the Biden administration.

The market also barely blinked at Moody's move with the S&P finishing slightly in the green and the benchmark 10-year Treasury yield finishing barely below 4.5% after starting the day above it.

Eric Amzalag, CEO and founder of Peak Financial Planning, is not making portfolio changes as a result of Moody's adjustment. In his view, the entire move was priced into the Treasury market and the Moody's downgrade is pure "performance art." He added that Washington's inability to restore fiscal discipline does pose a structural risk for investors, but not in the short or even the intermediate term.

"It's likely that it doesn't even pose risks within the next 50 years until poor fiscal discipline is combined with demographic problems, like older and wealthier generations dying off. Once that starts happening, there are fewer and fewer younger cohorts to pay taxes into social programs, especially with declining birth rates," Amzalag said. "And as this demographic change occurs, combined with high deficits and potentially high interest rates, the situation gets quite ugly. But we are likely 30 to 50 years away from that, in my opinion."

Similarly, Daniel Lash, partner at VLP Financial Advisors, is not currently changing portfolio allocations due to the result of Moody’s downgrade. That said, he did add floating rate vehicles to client portfolios earlier in the year to increase yield and diversify fixed income allocations. He also agrees that Washington’s inability to restore fiscal discipline poses a long-term structural risk for investors, but "when and if this risk becomes apparent is widely open for debate."

"Will the US debt be more of a problem relative to US revenues in 10 years or is it 30 years or more? If it is the latter, then most of today's retirees may not be concerned as they may not be alive for this to affect them today and younger investors can’t anticipate this potential structural risk today since it is so much further into the future," Lash said.

Along similar lines, Jeremy Zuke, financial planner at Abundo Wealth, won't be changing asset allocation recommendations based on the Moody's news. According to Zuke, a bond allocation is primarily set to balance the intense short-term risk of equities, and just as with equities, it is consistently to the disadvantage of investors to try to time the market in bonds.

"We go through events like this all the time: Debt ceiling battles, agency grade changes, expanding deficits, and the investors who come out best through the daily barrage of such news stories are the ones who don’t pay attention. Each investor should set a bond allocation appropriate to their needs and change it only when their situation changes, not when the news does," Zuke said.

Elsewhere, Nitin Sacheti, hedge fund manager with Papyrus Capital, is not changing his portfolio in response to the downgrade. In his case, it is mainly because he has been positioned defensively all year with a cash hedge and short exposure.

"While a reduction in foreign ownership or purchases of Treasuries could push yields higher, there are few other safe havens in the world which should keep rates from rising dramatically. We believe tariffs, the downgrade and the possibility of a recession all speak to owning quality businesses with secular growth and reasonable valuations in the mid-cap space instead of the household names with high valuations that have propped up the stock market for the last two years," Sacheti said. 

Moving on, Stuart Katz, chief investment officer at Robertson Stephens, is not worried as to whether the US will pay back its obligations even if the debt is growing. His chief concern is how the crowding out effect of more persistent, higher interest rates will weigh on America's far more dynamic private sector. 

"We believe rates will be higher for longer while the Fed is in the process of shrinking its balance sheet, and fiscal negotiations are biased toward increasing the deficit. The US itself has produced a lot of volatility for the rest of the world. Investors need to be thoughtful and deliberate in their position sizing and asset class while recognizing the correlations have been rising between public equities and fixed income," Katz said.

Finally, Frank Nickel, director of quantitative strategies and investment risk at Orion, is not making any changes to client portfolios at this time based on the Moody’s downgrade. He too has intermediate to longer-term concerns about the US debt situation, but does not see it significantly impacting economic conditions and investment returns in the short term. 

"We note that the S&P 500 traded at 1,218 in 2011, the year of the S&P downgrade, and at 4,369 in 2023, when the Fitch downgrade hit, and trades over 5,900 today. Also, the yield on the US 10-year note is higher than 2011 by about 150 basis point and higher than 2023 by about 50 basis points so, risk assets have done well," Nickel pointed out.