Credit rating explained

a score given to a firm or government indicating their ability to repay debts on time

                                

What are credit ratings?

Credit ratings are a score given to governments and companies that illustrate how creditworthy they are based on their previous transactions.

Agencies such as Moody’s, Fitch and Standard & Poor’s are trusted to provide this information. A rating of AAA suggests that a borrower has been able to successfully fulfill the terms of an agreement in the past, and this behavior is likely to continue. On the other end of the scale, a C or D would serve as a warning to would-be lenders that there’s a high risk of non-payment if a loan is granted. Each agency tends to present ratings in a slightly different way.

As well as being used to determine whether a lender should enter into an agreement with a borrower, credit ratings help banks calculate the interest rates attached to a loan. Governments and companies with an excellent score are likely to have a lower interest rate, making the cost of borrowing cheaper. Meanwhile, those with a more checkered past often end up paying higher levels of interest to reflect the risk that the lender offering them a loan.

Investors can also rely on these ratings when they are deciding whether or not to purchase bonds that have been issued by governments or companies.

Credit ratings are not to be confused with credit scores, which are used when individuals want to take out personal loans or mortgages. Here, numerical scores are provided to indicate the applicant’s creditworthiness – and detailed reports provide information about how many credit cards they have, whether they have high unpaid balances, and how long these accounts have been active.

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