Credit enhancement type

Credit enhancement types help mitigate credit risk and increase the credit quality of bonds, making them more attractive to investors. These mechanisms provide reassurance to bondholders by offering protection against potential issuer default and improving the overall creditworthiness of the bond.

Guarantee

Credit enhancement through a guarantee involves a third party, such as a parent company or another entity, providing a formal commitment to repay the bond in the event of default by the issuer. The guarantor agrees to honor the bond's payment obligations if the issuer is unable to do so. This type of credit enhancement adds an additional layer of security for bondholders by having a financially stable entity back the bond.

Insurance

Credit enhancement through insurance involves obtaining a policy from a third-party insurer to guarantee the repayment of the bond in case of default by the issuer. The insurance company agrees to make payments to bondholders in the event that the issuer fails to meet its payment obligations. This type of credit enhancement provides additional security to investors by transferring the default risk to the insurer.

Letter of credit

A letter of credit is a written guarantee from a bank or financial institution that ensures the timely payment of interest and principal on a bond. The issuer of the bond obtains a letter of credit to enhance its creditworthiness and provide assurance to bondholders. In case of default, the bank issuing the letter of credit is obligated to make payments on behalf of the issuer.