Security Rating
Definition
A Security Rating is an evaluation of the credit and investment risk of a specific securities issue, conducted by commercial rating agencies such as Moody’s, Fitch Ratings, and Standard & Poor’s (S&P). These ratings provide investors with information about the creditworthiness of the issuers, whether they be corporations, sovereign entities, or municipal governments.
Examples
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Corporate Bond Ratings: Corporate bonds may be rated by agencies like Moody’s or S&P. For instance, a bond issued by Company XYZ might receive an “A” rating, signifying high credit quality, whereas a bond from Company ABC might be rated “BB”, indicating higher risk.
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Sovereign Debt Ratings: Countries issue debt in the form of sovereign bonds, which are also rated. For example, the United States might have a high rating like “AA+”, denoting very low credit risk, while emerging market countries might have lower ratings such as “B+” or “BBB”.
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Municipal Bond Ratings: Local or regional government entities, such as cities or states, issue municipal bonds evaluated by these agencies. A city might receive a “AA” rating from Fitch, suggesting low risk, whereas another municipality might be rated “BB-”, indicating higher potential risk.
Frequently Asked Questions (FAQs)
Q: What do the different rating categories (like AAA, AA, BBB) signify? A: Rating categories represent the creditworthiness of a security or issuer. For example, an “AAA” rating indicates the highest quality with the lowest default risk, while a “BBB” rating suggests medium credit quality, and a “CCC” rating indicates poor credit quality.
Q: How often are security ratings updated? A: Ratings can be updated periodically or when material events that affect the creditworthiness of the issuer occur. The frequency may vary; it could be annually, semi-annually, or more frequently if there are significant developments.
Q: Can security ratings be changed or withdrawn? A: Yes, ratings can change over time with shifts in the issuer’s financial health or broader economic conditions. They may also be withdrawn if there is insufficient information to maintain a rating or if the issue is no longer relevant.
Q: Do all bonds have ratings from all major agencies? A: No, not all bonds will have ratings from every major agency. Some bonds may receive ratings from only one or two agencies, depending on the issuer’s request and the evaluation scope of the rating agencies.
Q: How do security ratings affect investment decisions? A: High ratings generally attract investors seeking lower risk, whereas lower ratings might appeal to those willing to take on higher risk for potentially higher returns. Ratings offer a streamlined way for investors to assess the credit risk associated with different securities.
Related Terms
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Credit Rating: An assessment of the creditworthiness of a borrower in general terms or with respect to a particular debt or obligation.
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Investment Grade: A rating that signifies low to moderate credit risk. Bonds rated from ‘AAA’ to ‘BBB-’ by S&P and Fitch or ‘Aaa’ to ‘Baa3’ by Moody’s fall into this category.
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Junk Bond: A bond with a rating of ‘BB’ or lower by S&P and Fitch or ‘Ba’ or lower by Moody’s, signifying higher risk and higher potential yields.
Online References
Suggested Books for Further Studies
- “Credit Rating and Its Impact on Bond Markets: Revisiting the Credit Rating Debate” by Ramaprasad Bhar
- “The Rating Agencies and Their Credit Ratings: What They Are, How They Work, and Why They are Relevant” by Herwig Langohr and Patricia Langohr
- “Handbook of Fixed-Income Securities” by Frank J. Fabozzi and Steven V. Mann
Fundamentals of Security Ratings: Investment Risk Basics Quiz
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