CHAPTER 13

Credit Analysis

Risk comes from not knowing what you are doing.

—Warren Buffett

Over the years, rating agencies have played an integral part in the investment community. They have made good calls, and of course, questionable calls as well. Truth be told, they are only human, but they are expected to provide accurate information, particularly when there is a fee attached to the service. At one point in time many years ago, there was the view held by some, that before any bond other than a U.S. Treasury was purchased, you only needed to look at the credit ratings to assess the overall health of the company that was issuing the debt. This was the perceived notion; however, just like anything else, times have changed.

In many ways, a bond rating paints a picture for the investor of the bonds that are available for purchase. Using the descriptive information provided by the rating agencies on a bond, you as a manager should, with a little homework, be able to understand the overall financial picture or health of the security. In addition, from the information provided, the management team should be able to deduce the necessary pieces to construct a view on the bond and at what level it should be trading.

THE AGENCY

Investors look to three primary rating agencies in the marketplace. There are others, but I will focus only on what I consider the top three. They are Moody's, Standard and Poor's (S&P), and Fitch. All three of these agencies have a ratings scale that covers the ...

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