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What Does It Mean to Have Your Credit Rating Downgraded?

Last updated 1/19/2009 10:16 AM ET (GMT -5) 0 Comments - Add your comment

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Kathy Lien

Director of Currency Research, GFT

This morning, Standard and Poors downgraded the sovereign debt rating of Spain from AAA to AA+ ( read the commentary from our colleague Boris Schlossberg ). With Greece’s rating downgraded last week and Ireland and Portugal on credit watch negative, this could be the beginning of more downgrades in the Eurozone.

Therefore it is important to consider what it means for a country to have their credit rating downgraded:

To have your credit rating downgraded means higher costs of borrowing. The Euro is slipping as we are seeing an exodus out of Spanish bonds because some funds are mandated to invest only in AAA debt. A credit rating reflects the risk of default and a lower credit rating means that a country is at greater risk of defaulting on their debt.

On a local level, we expect investors to shift their money out of Spanish debt and into countries with a higher credit rating such as Germany or even countries outside of the Eurozone. Spanish bond prices have dropped significantly since the beginning of the year, driving yields higher. The gap between the interest rates on German and Spanish bonds have hit the highest level in 10 years, reflecting the sharp divergence in economic performance. According to the following chart, the spread between German and Spanish interest rates have doubled since November. 

Talk of Spain leaving the Eurozone is irrelevant because their cost of borrowing would skyrocket if they chose to do so. We think that there is a greater chance that those countries will be kicked out of the Eurozone than leave it voluntarily.

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About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.