Bond

Debt instrument that obligates the issuer to pay to the bond holder the principal plus interest

Bonds are issued by the government or other public authorities, credit institutions, and companies, and are sold through banks. They enable the issuer to finance long-term investments with external funds. The most important features of a bond are its maturity date, the coupon (interest rate), and whether the interest rate is fixed or floating. The rights vested in a bond are stipulated by law, but are typically supplemented with additional terms and conditions.

Bonds can fall into one of the three following categories:

• fixed-rate bonds (interest rate remains constant throughout the life of the bond)
• floating-rate bonds (variable interest rate that is tied to a benchmark such as a money market index)
• zero-coupon bonds (bond that does not bear interest as such, but is sold at a substantial discount from its face value; the bondholder receives the full face value at maturity).

Rating

Evaluation or credit assessment of the issuer of a security based on a standardized method.

A rating is a qualitative evaluation of the default risk of a debtor, a credit or a bond issue. There is a distinction between short-term ratings and long-term ratings – depending on the future period for which the repayment potential is assessed. 

Ratings are expressed in letter codes; they are divided into various levels. Rating agencies determine their ratings on the basis of a systematic procedure. The largest agencies in this area are Standard & Poor’s, Moody’s and Fitch.

Rating codes vary from agency to agency or according to different time patterns. Moody's, for instance, uses letters and numbers in combination, such as in A1, A2, A3. Standard & Poor's, on the other hand, adds "+" or "-", such as in B+, B, B-. Thereby, AAA (triple A) stands for the highest level of creditworthiness and D indicates a looming insolvency.