Which component is included in measuring credit risk in bonds?

The spread over government bond rates is a critical component in measuring credit risk in bonds because it represents the additional yield that investors require to compensate for the inherent risks associated with a particular bond issuer compared to a risk-free government bond. This spread reflects the credit quality of the issuer; a higher spread typically indicates a higher perceived risk of default. Thus, if a company has a weak credit profile or is in a troubled financial position, investors will demand a larger spread to take on that additional risk, which directly correlates with the level of credit risk associated with that bond.

In this context, comparing the yield of a corporate bond to that of a government bond serves as a gauge for assessing credit risk. If the spread widens, it may indicate that investors are becoming more concerned about the creditworthiness of the issuer, thus adding to their overall credit risk.

Other components such as interest rate sensitivity, exposure to market fluctuations, and macro-economic indicators can influence bond prices and investor sentiment, but they do not directly quantify the credit risk in the same manner that the spread over government bond rates does. Interest rate sensitivity focuses more on interest rate risk rather than credit risk, while exposure to market fluctuations pertains to broader market movements rather than issuer-specific default risk. Macro-economic