credit spread
The difference in yield between a corporate bond and a comparable Treasury bond of the same maturity, representing the additional return required for taking credit risk.
Example
“Investment grade bonds yielded 1% above Treasuries while junk bonds spread 5% — reflecting vastly different credit risks.”
Memory Tip
CREDIT SPREAD = extra yield for taking credit risk. Wider = more risk perceived. Narrows in good times.
Why It Matters
Credit spreads help investors understand how much extra return they receive for taking on the risk that a company might default on its debt. A wider spread signals that the market views a company as riskier, which can affect bond prices and investment returns for anyone holding corporate bonds in their portfolio.
Common Misconception
Many people think credit spread only matters to professional bond traders, but it actually affects ordinary investors through bond funds, mutual funds, and retirement accounts. A widening spread can cause the value of your bond investments to fall even if interest rates stay the same, because investors demand higher returns for the increased risk.
In Practice
Imagine a 10-year Treasury bond yields 3 percent while a 10-year corporate bond from a stable company yields 4.5 percent. The credit spread is 1.5 percent, meaning investors require an extra 1.5 percent return to compensate for the company default risk. If the company faces financial trouble and the spread widens to 2.5 percent, the corporate bond value drops because new investors would demand that higher yield, making existing bonds worth less.
Etymology
CREDIT (default risk) SPREAD (difference in yield). The yield SPREAD attributable to CREDIT risk.
Common Misspellings
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