The Moody's downgrade of U.S. credit on Friday sent shockwaves through markets, driving 30-year Treasury yields to 5% — a level unseen since October 2023 — reviving fears about debt sustainability and putting downward pressure on equity valuations across the board.

Moody's decision marks the third U.S. credit rating downgrade since 2011, following S&P's move in 2011 and Fitch's in 2023.

How Higher Treasury Yields Hurt Stock Markets

Higher yields ripple across the entire financial system, raising borrowing costs and changing how investors value stocks.

There are at least five channels via which higher Treasury yields pressure markets:

1. Bond Prices Fall, Increasing Market Volatility: As yields rise, prices of existing bonds drop — hurting current bondholders and increasing volatility. Rising Treasury yields also ripple through markets as a broad signal of tightening financial conditions.

2. Cost Of Capital Increases: Treasury yields serve as a benchmark for other forms of debt. When they rise, companies — especially those already heavily indebted — must pay more to borrow from investors. That slows investment, expansion and profitability, particularly for heavily leveraged firms.

3. Earnings Yield Becomes Less Competitive: As of mid-May, the S&P 500 earnings yield stood at 3.5%, trailing the 10-year Treasury yield by a full percentage point. This reverses the typical risk-return tradeoff, making “risk-free” government bonds more attractive than equities — and increasing the likelihood of investors shifting capital away from stocks.

4. Discount Rates Rise, Valuations Drop: Treasury yields act as a benchmark discount rate in stock valuation models. Higher yields reduce the present value of expected cash flows — particularly for growth stocks and small caps that rely on future profitability.

5. Consumer Spending Gets Squeezed: Higher Treasury yields — particularly longer-dated ones — also push up rates on mortgages, credit cards and loans. That weakens consumer demand and further weighs on earnings outlooks for consumer-facing sectors.

Historical Reactions To U.S. Credit Downgrades: 2011 vs. 2023

While the full effect of the May 2025 Moody's downgrade is still unfolding, we can look back at 2011 and 2023 for comparison.

In both instances, equity markets sold off sharply, and volatility spiked in the two months following the downgrade. However, their trajectories diverged in the months that followed.

In 2011, markets staged a strong rebound in October, with the S&P 500 — as tracked by the SPDR S&P 500 ETF Trust SPY — rallying over 10%, as investors looked past the downgrade. In contrast, 2023 saw continued equity losses through October, before stocks finally bottomed out and launched a powerful rally that lasted through February 2025, driven by easing inflation and AI-fueled tech momentum.

Reactions across other asset classes were more mixed. Treasury bonds — looking at the 10-year benchmark — rose in 2011, as investors fled to safety despite the downgrade. But in 2023, they declined, reflecting fears about long-term debt sustainability and inflation.

The U.S. dollar strengthened in both cases, defying expectations that credit downgrades would dent its safe-haven status.

Gold, as tracked by the SPDR Gold Trust GLD — saw mixed performance, surging after the 2011 downgrade but falling in the immediate aftermath of the 2023 cut before rebounding.

Market Reactions To S&P's U.S. Downgrade In 2011

Market Reactions To Fitch's U.S. Downgrade In 2023

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