Analysis and Evaluation of Corporate Bonds

Abstract

Issuers' credit qualities change over time. For this reason, permanent credit assessments play an important role to determine and price credit instruments. The ability to perform this task is a key factor in successful credit risk management. This is especially true for issuers where rating agencies do not provide credit ratings. But even in cases where external credit ratings are available, internal assessments are important to be able to react quickly to new information and situations (such as leveraged buyout news) as agencies' credit rating changes might happen after the credit instrument's price has already moved. Quantitative credit rating models (for example, Altman's Z score model) are efficient tools to assess and estimate credit qualities. These models are based on combinations of fundamentally important financial ratios and can differ across industry sectors. Calibrating the model results into rating notches enables the user to compare the internal credit rating to the credit agencies' ratings allowing comparative analyses and relative value considerations. The sophisticated credit analyst will be able to forecast the ratios using consistent scenario analysis and assumptions, employ the quantitative credit models, and will receive forward-looking credit rating estimates. This will deliver a competitive advantage and should result in a material contribution to enhancing the credit portfolios' risk return profile. Keywords: credit rating; rating agencies; discriminant analysis; financial ratios quantitative rating model, relative value analysis; scoring model