Question of the Week: What are bond ratings?

Bond ratings are a guide to the creditworthiness of bonds, which in-turn helps an investor determine the amount of risk they would take on when purchasing these bonds.

Bond ratings are opinions issued by rating agencies. The three main rating agencies that investors turn to are Moody’s, Standard & Poor’s and Fitch. In Canada DBRS also rates bonds.

The rating agencies will examine the financial health of an issuer and assign a rating to their bonds. This is determined by assessing the issuer’s ability to make interest payments on the bond and to pay the principal upon the maturity of the bond. A higher rating is an estimate that there is a lower chance that an issuer will default on the bond. The rating also affects how much interest the issuer will need to offer to make the bonds appealing to investors.

Bonds are typically rated in a range from investment grade to non-investment grade. Investment grade bonds are considered to be safer investments with less risk of default by the issuer. Non-investment grade bonds, also referred to as high-yield, speculative or junk bonds, have lower ratings because they have a higher risk of default. Because of this increased risk they have to offer higher interest rates to entice investment.

Here are the ratings used by the four rating agencies:

Investment grade:

Non-investment grade:

When investing in bonds always make sure you check the credit rating of the issuer. Make sure the bond and its credit rating fit within your risk tolerance and your financial goals.