Credit Risk

Wikipedia defines credit risk as the risk that a borrower will default on any type of debt by failing to make required payments.  With the recent news regarding Argentina’s debt, this may be a good time for investors to carefully review their fixed income strategy.

Two years ago, we blogged the question, “If You Borrow Money Should You Have To Pay It Back?”  Apparently Argentina doesn’t think so.  For investors, perhaps the better question would be, “If I Lend Money, Will I Get It Back?”

Fixed income strategies have come under increasing pressure as yields on the highest quality debt instruments have fallen to historic lows and, by many measures, have reached a point of negative real returns.  This has led to increased investor interest in lower quality securities, in an effort to improve income.

Caution must be taken, as lower quality typically leads to increased credit risk.

Generally, higher risk security pricing tends to include a “risk premium” which, in a broadly diversified portfolio, would offset the increased risk of default.

Investors seeking higher yields should, together with their advisor(s), carefully review the underlying financial strength of higher yielding investment opportunities.  As noted above, close attention to appropriate levels of diversification can help to mitigate increased risk.

All comments and suggestions are welcome.

Walter J. Kirchberger, CFA®