Investment Risk
Credit Risk
In order to help investors assess the credit worthiness of an obligor, independent nationally recognized statistical organizations, also called rating agencies, offer appraisals of the financial stability of a particular issuer and its ability to pay income and return principal on an investment.Moody’s, S & P and Fitch are the better known rating agencies that assign a specific rating indicating the degree of risk an investor acquires by owning debt in a particular obligor’s name.
Default Risk
This is an obligor’s inability to remain solvent and pay any outstanding debt obligations in a timely manner. Adverse changes in the creditworthiness of the issuer (whether or not reflected in changes to the issuer’s rating) can decrease the current market value and may result in a partial or total loss of an investment.
Interest Rate Risk
Occurs as interest rate changes occur. The yield offered on bonds is based upon a collaboration of all associated risks evaluated, coupled with a market determined spread over a similarly traded riskless transaction (historically measured versus a similar maturity Treasury bond). As interest rates fluctuate, the yield on most bonds will be adjusted accordingly. Generally, as interest rates rise, the price of a bond will fall and conversely, as interest rates fall, the price of a bond will rise.
Reinvestment Risk
Timing of reinvestment of returning interest or principal can cause an investor’s return to fluctuate. In a falling interest rate environment, an investor will likely benefit from higher coupons and longer maturities as this prevents the need to reinvest into a lower, less favorable interest rate environment. If interest rates are rising, higher coupon and/or short maturities allow an investor to take advantage of rate increases and put their money to work at improving interest rates.