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Understanding finance company ratings

Ratings are an important tool all investors looking to put money on to deposit need to understand.

The key things to remember about ratings are that:

  • They are an opinion - not a guarantee
  • Each rating organisation is different - understand what they do and how their scales work
  • Ratings are generally giving a probability of default
  • Investment grade doesn't mean an investment is safe. Likewise a so-called “junk bond” isn't necessarily a bad investment.

One of the big issues with these firms is understanding their ratings scales, as they are not particularly intuitive.

Ratings are done by letters and range from A down to E. With each letter there are three steps, eg: AAA, AA, and A. These steps can be further graduated with plus and minus symbols. For instance you can have AA+.

Where they become tricky to understand is that the order of priority is from a triple letter, eg BBB down to a single letter. This, along with the plus and minus symbols can give misleading perceptions.

For instance a BBB- rating is actually better than a BB+.

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