Question

What are bond ratings and why are they important?

How does inflation affect interest rates?

What is the term structure of interest rates?

Answer 1

Answer (1): Bond Rating- It is the grade that is given to bonds by the private credit rating agencies. These grades tell the credit worthiness and repayment capacity of a bond. Bond ratings decide the ranks of bonds. Ratings tell the financial credibility and strenght of bonds.

Credit Rating agencies- These are private independent agencies that provide ratings to bonds, mutual funds and ETFs etc. These agencies are:

1. Standard & Poor's
2. Moody's
3. Fitch
4. CRISIL
5. ICRA
6. CARE etc.

Importance of Credit ratings- These grades help investors to decide the best bonds and mutual funds so that they may not suffer default risk. Ratings help in ranking the bonds. Borrower can compare the cost of capital of different sources on the basis of ratings.

Answer (2): ​Inflation affects interest rates- Yes, it is true. Inflation is an economic situation where prices of commodities increase and purchasing power of money decrease. When interest rates are lower, people take loan and demand for more goods that increases the prices of goods and services, to bring the prices and inflation down, Central bank increases the interest rates so that demand may come down.

Answer (3): Term structure of interest rates- It is the relationship between interest rates and maturities of bonds. It tells how the bond yield changes as the maturity changes.