NISM-Series-XV: Research Analyst · Terminology in Equity and Debt Markets

Credit Ratings, Spreads and Interest Rate Concepts for NISM Research Analyst

Updated 11 October 2026 · Fact-checked

A credit rating is an opinion on an issuer's ability to repay debt. Credit spread is the extra yield a risky bond pays over a risk-free benchmark of similar maturity. The yield curve plots yield against maturity. Repo is the RBI lending to banks; reverse repo is the RBI absorbing money. Learn the direction of each link.

Understand Credit Ratings, Spreads and Interest Rate Concepts

A bond is a loan. The buyer wants to know two things: will the borrower repay, and what return is fair for the risk and the time? Credit ratings answer the first. Yields, spreads and benchmark rates answer the second.

Credit rating is an opinion from a SEBI-registered credit rating agency, such as CRISIL, ICRA, CARE or India Ratings, on the issuer's ability and willingness to pay interest and principal on time. Ratings use letter grades. AAA is the highest safety and D means default. Ratings from BBB- and above are investment grade. Ratings below that are speculative grade (also called non-investment grade). A rating is an opinion, not a guarantee, and it can be upgraded or downgraded. Agencies also give an outlook (positive, stable or negative) to signal the likely direction.

Credit spread is the difference between the yield on a corporate bond and the yield on a government security of similar maturity. The government security is treated as the risk-free benchmark. A lower-rated bond has a wider spread because investors demand more compensation for default risk. Spreads usually widen when the economy weakens or when an issuer is downgraded, and narrow when confidence improves.

The yield curve plots yields of bonds of similar credit quality (usually government securities) against their maturity. A normal (upward sloping) curve has longer maturities yielding more. A flat curve has similar yields across maturities. An inverted curve has short-term yields above long-term yields, which is often read as a signal of expected slowdown or falling rates. A steepening or flattening describes a change in the gap between long and short yields.

In India, the RBI sets the repo rate: the rate at which it lends money to banks against government securities. The reverse repo rate is the rate at which the RBI borrows money from banks. Repo is the policy rate. Higher repo makes borrowing costlier and pushes market yields up. Benchmark rates are reference rates used to price loans and bonds, such as the repo rate, government security yields and overnight market rates.

Fixed-income risks you must name: interest rate risk (prices fall when yields rise), credit or default risk, reinvestment risk (coupons reinvested at lower rates), liquidity risk (hard to sell without a price concession), inflation risk (real return erodes) and call risk (issuer redeems early).

Key formulas to remember

Credit spread: Credit spread = Yield on corporate bond − Yield on government security of similar maturity; Compare same maturity. Spread is usually quoted in basis points.
Basis point: 1 basis point = 0.01%; 100 basis points = 1%; Convert before comparing. A 50 bp change is 0.50%.
Price-yield relationship: Yield ↑ ⇒ Bond price ↓; Yield ↓ ⇒ Bond price ↑; This inverse link is the core of interest rate risk.
Repo vs reverse repo direction: Repo: RBI lends to banks. Reverse repo: RBI borrows from banks; Always read the direction from the RBI's side.
Investment grade cut-off: Investment grade = BBB- and above; below BBB- = speculative grade; AAA is highest; D means default.

How to solve Credit Ratings, Spreads and Interest Rate Concepts questions

Most questions on this topic test a definition, a direction of movement or a classification. Use the same method each time.

1Identify the term being asked: rating, spread, curve shape, repo, benchmark or a type of risk.
2Recall its one-line definition and, for repo, whose side you are reading from.
3If numbers appear, convert basis points to percentages and match maturities.
4For spread questions, subtract the government yield from the corporate yield.
5For direction questions, apply the inverse price-yield rule or the rate-change chain: policy rate up, yields up, bond prices down.
6Classify risks by what causes the loss: rate change, default, reinvestment, liquidity, inflation or early redemption.
7Remove options that reverse the direction or mix up two terms, then pick the one that fits fully.

Quickest way: Direction and definition shortcut

When to use it: Use this for one-line MCQs on repo, spreads, ratings and bond risks when you have under a minute.

Repo = RBI lends. Reverse repo = RBI borrows.
Spread = corporate yield minus government yield. Lower rating means wider spread.
Yields up means prices down. Always.
Inverted curve means short yields exceed long yields.
BBB- is the last investment grade rating.
Match the risk to its cause: default is credit, falling coupon reinvestment rate is reinvestment risk.

Common mistakes in Credit Ratings, Spreads and Interest Rate Concepts

Reversing repo and reverse repo.
Students read the transaction from the bank's side instead of the RBI's side.
Fix: Fix the viewpoint on the RBI. Repo: RBI lends against securities. Reverse repo: RBI absorbs liquidity.
Thinking a higher credit rating means a wider spread.
Students link a high rating with a high return.
Fix: Safer issuers pay less. A higher rating gives a narrower spread and a lower yield.
Believing that a rating is a guarantee of repayment.
Letter grades look like certificates.
Fix: A rating is an opinion on repayment capacity and can change through upgrade or downgrade.
Saying rising yields raise bond prices.
Students confuse yield with coupon.
Fix: A fixed coupon becomes less attractive when new bonds pay more, so the price falls.
Calling BB+ investment grade.
The cut-off letters look similar.
Fix: Investment grade ends at BBB-. BB+ and below is speculative grade.
Mixing reinvestment risk with interest rate risk.
Both are caused by rate changes.
Fix: Interest rate risk hits the bond's price. Reinvestment risk hits the return on coupons received and reinvested.

Worked examples

Example 1

A 5-year AA-rated corporate bond yields 8.40%. A 5-year government security yields 7.10%. What is the credit spread in basis points, and what happens to the spread if the issuer is downgraded?

Show the solution

Spread = corporate yield − government yield = 8.40% − 7.10% = 1.30%.
Convert to basis points: 1.30% × 100 = 130 bp.
A downgrade raises perceived default risk, so investors demand a higher yield over the government security.
The spread therefore widens.

Answer: The spread is 130 basis points, and it widens after a downgrade.

Example 2

The RBI raises the repo rate. Which of the following is the most likely effect on existing fixed-rate government bonds? (a) Prices rise as yields fall (b) Prices fall as yields rise (c) Prices unchanged as coupon is fixed (d) Prices rise as the yield curve inverts

Show the solution

Higher repo rate makes borrowing costlier and pushes market yields up.
Existing bonds carry a fixed coupon, so they are less attractive than new higher-yielding bonds.
Price and yield move inversely, so prices of existing bonds fall.
Option (a) reverses the direction. Option (c) ignores the price-yield link. Option (d) is not a rule.

Answer: Option (b): prices fall as yields rise.

Exam tips

Practise the direction rules until automatic: repo, reverse repo, yield and price, rating and spread.
Learn the rating ladder from AAA down to D and the investment grade cut-off at BBB-.
Read the question for the viewpoint (RBI or bank) before answering repo questions.
Watch for basis point conversions and matching maturities in spread questions.
With negative marking in NISM-Series-XV, skip a question only if you cannot eliminate at least two options.

Practice questions from Terminology in Equity and Debt Markets

Credit Ratings, Spreads and Interest Rate Concepts in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Credit Ratings, Spreads and Interest Rate Concepts: frequently asked questions

What is credit spread in bonds?

It is the extra yield a corporate bond offers over a government security of similar maturity. It compensates for default and liquidity risk. Lower-rated issuers have wider spreads.

What is the difference between repo rate and reverse repo rate?

Repo rate is the rate at which the RBI lends to banks against government securities. Reverse repo rate is the rate at which the RBI borrows from banks. Repo is the main policy rate.

What does an inverted yield curve mean?

Short-term yields are higher than long-term yields. It is often read as a sign that markets expect slower growth or lower future rates. It is a signal, not a certainty.

Who gives credit ratings in India?

SEBI-registered credit rating agencies such as CRISIL, ICRA, CARE and India Ratings issue them. Each uses letter grades, with AAA the highest and D meaning default.