Close

How Credit Ratings Affect Bond Valuations

How Credit Ratings Affect Bond Valuations Splash image

There is widespread misunderstanding about what credit ratings really mean, and how they affect the returns that you earn and the overall riskiness of your portfolio.

Investors generally rely on bond ratings to evaluate the credit quality of specific bonds. Credit ratings indicate on a scale of high to low the probability of default; that is, the probability that debt will not be repaid on time in full. Failure to redeem principal at maturity would constitute a default. Failure to make interest payments on time (that is, to pay coupons to bondholders) would also constitute a default. In plain English, ratings answer two questions: How likely am I to get my money back at maturity, and how likely am I to get my interest payments on time?

All bonds are not subject to default risk. Any security issued directly by the U.S. government is considered free of default risk. Although these bonds are not rated, they are considered the safest and highest-quality securities that you can buy because a default by the U.S. government is deemed impossible. This includes all Treasury securities, as well as savings bonds.

...To continue reading this article you must be registered with AAII.

Gain exclusive access to this article and all of the member benefits and investment education AAII offers.
JOIN TODAY for just $29.
Log in
Already registered with AAII? Login to read the rest of this article.

Register for FREE
to read this article and receive access to future AAII.com articles.
  


Discussion

No comments have been added yet. Add your thoughts to the discussion!

You need to log in as a registered AAII user before commenting.
Create an account

Log In