NSW and Victoria just had their credit ratings downgraded. Here’s what that means

NSW and Victoria have just had their credit ratings downgraded by S&P Global. Here’s what a credit rating is, and what a downgrade means.

falling asx share price represented by child making thumbs down gesture with grimacing face

Image source: Getty Images

Late yesterday, we were treated to the news that the states of New South Wales and Victoria have lost their coveted ‘AAA’ credit ratings.

According to reporting in the Australian Financial Review (AFR), it was the rating agency S&P Global (Standard & Poor’s) that issued the downgrades. NSW now has a credit rating of ‘AA+’, and Victoria now ‘AA’.

The AFR reports that S&P had placed Victoria’s AAA rating ‘on-watch’ in August, but has re-rated the state due to its deteriorating budget position. The AFR quoted S&P as stating the following on the re-rating:

The lowered rating reflects our view that the COVID-19 pandemic has dealt Victoria a severe economic and fiscal shock that has materially weakened its credit metrics more than domestic and international ‘AAA’ and ‘AA+’ rated governments… In our view, the Victorian government’s path to fiscal repair will be more challenging and prolonged than other states because of the significant increase in debt stock projected over the next few years.

Meanwhile, NSW did manage to receive a higher rating of ‘AA+’ over Victoria, despite still receiving a downgrade. Here’s what S&P said about NSW:

The downgrade primarily reflects our expectation that NSW’s debt burden will rise substantially during the next three years… We expect NSW to post a historically large after-capital-account deficit this fiscal year, though the deficit should narrow in future years. NSW has a higher degree of flexibility than its peers, with some potential upside to our deficit and debt projections from unbudgeted asset sales and expenditure reviews.

So what does all of this mean? And what exactly is a credit rating to begin with?

Credit where credit is due

A credit rating is a rating usually issued by one of the ‘big three’ dominant credit rating agencies: S&P Global, Moody’s and Fitch Group (although others exist as well). These ratings agencies issue ratings for everything from corporations and bonds to sovereign governments. 

The ratings essentially reflect the quality of the rated institution as a debtor. Think of it as a supercharged version of the credit check a bank will perform on a potential customer applying for a home loan.

The ‘ratings’ these agencies issue reflect this paradigm. The ratings differ slightly from issuer to issuer, but generally speaking, they range from ‘AAA’ to ‘D’ or ‘DDD’. Sometimes (especially for bonds), the ‘BBB-‘ and above are referred to as ‘investment-grade’, whereas ‘BB+’ and below are ‘non-investment grade’ (sometimes called ‘junk’ or ‘subprime’).

Usually, the credit rating an entity receives (whether it be a government or corporation) affects the kind of interest rates it can borrow at. Obviously, an entity with a ‘AAA’ rating is, in theory, a ‘safer’ investment to loan money to than a ‘D’ rated one. Hence, the higher the rating, the less expensive it is for the entity to borrow money.

That’s why it’s a big deal of sorts when a state government gets a downgraded rating.

Wondering where you should invest $1,000 right now?

When investing expert Scott Phillips has a stock tip, it can pay to listen. After all, the flagship Motley Fool Share Advisor newsletter he has run for more than eight years has provided thousands of paying members with stock picks that have doubled, tripled or even more.*

Scott just revealed what he believes could be the five best ASX stocks for investors to buy right now. These stocks are trading at near dirt-cheap prices and Scott thinks they could be great buys right now.

*Returns as of August 16th 2021

Sebastian Bowen has no position in any of the stocks mentioned. The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of and recommends Moody's. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

More on Share Market News