Effects of rating downgrades on the stock market

One of the visitors to this website raised the question "Is the stock market affected when Standard and Poors downgrades a rating?"

The simple answer to this is Yes, but it can vary to some degree.

What is a credit rating?

A credit rating evaluates the credit risk of an individual, corporation or country. It tells lenders the probability of a borrower being able to pay back money. For corporations, this credit rating tells investors how risky it is to invest in a corporation.

Corporations and businesses can thrive because of debt. Debt is used to fund growth, buy other companies and make major investments. By using debt, companies are no longer limited to the amount of money they have but rather the amount of money that they can borrow.

A credit rating takes into account all the income and outstanding debt of a company. A high or good credit rating means that a company is likely to pay back all of their debts and loans. A low or bad credit rating means that the company is not as likely to pay back all their debts and loans.

How does a credit rating affect the stock market?

A credit rating helps investors to know the risk that they are taking. More return should be expected on higher risk investments to help out way the risk.

When a credit rating is lowered it is telling investors:

• Less money is available to the company

• A possible lower return

• More risk

• Not worth as much

The opposite applies when the credit rating is raised:

• More money is available to the company

• A higher possible return

• Less risk

• Worth more

These items have a direct effect on the stock market price.

Tags: Credit, Credit Ratings, Investing, Sharemarket, Shares, Stock, Stock Exchange, Stocks

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