Guide to Understanding Bond Credit Ratings

Understanding bond credit ratings is an important part of investing in the bond market. In order to be successful in the bond market, individuals need to look at bond ratings and make educated investment decisions regarding them. Here are the basics of bond ratings and how to use them successfully.

Bond Ratings

Bond ratings are commonly used by bond investors in order to decide which companies to invest in. When an individual purchases a bond, he or she is essentially lending money to the company that issued the bond. When this happens, the individual is a creditor to the company. As an investor, you want to invest in companies that represent a good credit risk. If a company has a bad business credit score, you would not lend them money without asking for a high rate of return.

Since individuals do not have access to business credit scores, they need to use some other type of system to determine which companies are good credit risks and which ones are bad. Bond credit ratings are designed to provide a system for people to use in order to make decisions about the risk levels associated with bond issuers. By looking at bond ratings, you can tell exactly what companies are good credit risks and which ones are a little riskier.

Interest Rates

When you invest in a bond, you are going to receive a fixed rate of interest in most cases. The bond issuer will pay you interest for lending the money just as they would if they were borrowing money from a bank. In the bond market, the interest rates that are paid by bond issuers are directly related to their bond ratings. Companies that are rated high can get away with paying lower rates of interest. Companies that are rated poorly have to pay a higher amount of interest in order to attract investors. This means that you need to be aware of the bond rating in order to assess whether the interest rate that is being paid is fair to you.

Bond Rating Systems

There are three bond rating agencies that are commonly used as a way for investors to check out bond issuers. The three most commonly used bond rating companies are Fitch, Standard & Poor's, and Moody's. All three of these companies regularly issue bond ratings of companies in the market. Each one of these happenings has their own bond rating system that they use.

Each one of the three bond rating agencies utilizes a rating of "AAA" as the highest rating that a company can have. This means that the company has always been good about paying back their debts and is in a good position in their respective industry. From there, the bond ratings go down all the way to a "C" for Moody's and a "D" for Fitch and Standard & Poor's. When a bond rating get down this low, it means that the company is about to file for bankruptcy or already is in bankruptcy proceedings.