Do credit and default risks impact bond prices?

Credit risk is the risk that the issuer will default or be unable to make further interest and principal payments.

Credit and default risk is specific to the bond issuer and at times their industry. Investors often rely on the credit rating assigned to issuers by credit rating agencies such as Dominion Bond Rating Services (DBRS), Moody’s, Standard and Poors (S&P) and Fitch Ratings. In addition to an issuer’s assigned credit rating, investors should monitor current news concerning the issuer and their industry. Often current news, good and bad, may not be incorporated in an agency’s rating. Careful research of the issuer and their industry will help to determine if there is any recent news that might affect the bond or it’s issuer negatively.

Credit rating agencies conduct their reviews at set intervals or when a material change to the issuer’s finances, business, or industry warrant a review.

Investors should realize that bonds with a lower credit rating are higher risk and the bond’s current yield and yield to maturity will be higher to compensate for the higher risk.

More often than not, a bond with a higher yield will also carry higher levels of risk for the investor. Higher coupon rates and yields are often found on bonds with lower credit ratings  and/or have a longer time to maturity.

Bonds are categorized as Investment Grade (typically maintain a credit rating of “BBB” or higher) or Non-investment Grade (commonly referred to as High-yield or Junk Bonds). Investment grade bonds are less likely to experience credit rating downgrades or to default than are non-investment grade bonds. While an investment grade bond may experience a credit downgrade or default, a bond with a higher rating is less likely to experience a downgrade or default.

The default rate for corporate bonds may also be affected by the strength of the economy. Economic conditions can greatly affect the likelihood that a corporate issuer will be unable to meet its bond obligations

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