Bond Ratings & Credit Quality
Letter grades from S&P, Moody's, and Fitch measuring default risk: BBB-/Baa3 and above are investment grade; anything below is high-yield (junk).
SIE questions usually hinge on the dividing line and scale direction: you’re handed a rating (BB+, Baa3, BBB-) and asked investment grade or junk. The “tell” is that lower letters mean higher risk and higher yield — the highest-coupon, safest-sounding bond is usually the riskiest. Watch for the trap where a bond is “downgraded from BBB- to BB+” — that crosses out of investment grade, so institutions mandated to hold investment grade are forced to sell (a “fallen angel”). And don’t mix rating systems: BBB-/BB+ are S&P/Fitch, while Baa3/Ba1 is the Moody’s equivalent — item-writers swap them to catch you.
Keep credit risk (nonsystematic/diversifiable — spread it across issuers) separate from interest-rate risk. Also separate a rating from seniority: ratings gauge default risk, not where a bond sits in the capital structure, so a low-rated secured bond can still recover ahead of a higher-rated unsecured one in liquidation. Hook: “Baa/BBB is the basement of investment grade — one step down is the junkyard.”
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