What are Credit Ratings?
Credit Ratings are a measure of the credit worthiness of an organization such as a government or a public or private corporation. It is also an assessment of the quality of debt (loan) instruments issued by these institutions. In layman’s terms, a credit rating is a score that shows the capacity of the borrowing entity to meet its financial obligations to investors.
Who are the major credit rating agencies in the world?
There are several credit rating agencies but the three major players in the world, accounting for at least 90% of the market, are Moody’s, Standard and Poor’s (S&P) and Fitch Ratings. Moody’s and S&P are based in the United States while Fitch Ratings has two headquarters, one in London and another in New York. The “Big Three” issue short-term and long-term ratings of debt papers of governments and companies worldwide and also an outlook on the assessed entity, such as positive, negative or stable.
How are credit ratings useful?
Credit ratings help assess the risk associated with a financial instrument. It thus gives investors an idea on the fair price of a financial asset. A ratings “upgrade” generally means the entity is improving in terms of credit standing while a “downgrade” means the opposite. Such action has tremendous effects on the financial markets as it can fuel jitters and panic in the market, specially during a ratings downgrade when the assessed entity is considered riskier than before, causing an increase in its cost of borrowing.
What are the types of credit ratings?
The Big Three ratings agencies typically have two major types of long-term credit ratings: Investment Grade and Non-Investment Grade (also called “Speculative” or “Junk”).
- Moody’s — Aaa; Aa (Aa1, Aa2, Aa3); A (A1, A2, A3); Baa1, Baa2, Baa3
- S&P — AAA; AA (AA+, AA, AA-); A (A+, A); BBB
- Fitch — AAA; AA; A; BBB
Speculative/Junk (Non-Investment Grade)
- Moody’s — Ba1, Ba2, Ba3; B1, B2, B3; Caa1, Caa2, Caa3; C
- S&P — BB; B; CCC; CC; C; CI; R; SD; D
- Fitch —BB; B; CCC; CC; C; D
What exactly do the credit ratings mean?
The table below summaries the meanings of the comparative ratings of the three major credit rating companies.