Like in any other security, investors look at credit ratings to determine a debt issuer’s ability to repay a loan. In forex trading, credit ratings are mostly referred to sovereign debt, or bonds, issued by governments to finance public projects and services. We usually see credit ratings expressed in letters like AAA, BB+, or D.
Since sovereign debt is usually denominated in foreign currencies, countries with unstable exchange rates or low economic growth usually have low credit ratings as they present additional risk of not being able to pay back their investors. As a result, countries with low credit ratings usually have to pay more than its high-rating counterparts in order to borrow the same amount of money from markets.
Do credit rating decisions directly affect my favorite currency pairs?
Since credit ratings factor greatly in investors’ analyses, any major announcement from major credit rating agencies can directly affect your currency trades.
Take note that the fact that not all credit ratings agencies are in sync with their assessments suggests that no single ratings agency can present the whole picture when it comes to analyzing sovereign debts.