Definition
A credit spread is the extra yield a bond pays over a comparable-maturity benchmark, such as a government bond, to compensate investors for credit, liquidity and other risks. It is usually quoted in basis points, where 100 basis points equal one percentage point.
How it works
A wider spread means the market demands more compensation, which may reflect higher perceived default risk, lower liquidity or a weaker economic outlook; a narrower spread suggests the opposite. Spreads differ by issuer, rating, maturity and sector, and can be measured against different benchmarks.
If the benchmark yield stays unchanged and the spread widens, the bond's yield rises and its price falls. Spread is not the same as expected loss: it also contains a premium for bearing uncertainty and illiquidity, so it cannot be read as a default probability.
Formula / convention
Credit spread = Bond yield − Benchmark yield of similar maturity (in basis points = difference in percentage points × 100)
Illustrative example
A fictional 5-year corporate bond yields 5.40% while a 5-year government benchmark yields 3.90%, so its credit spread is 5.40% − 3.90% = 1.50 percentage points, or 150 basis points. If the spread widens to 190 basis points with the government yield unchanged, the corporate yield rises to 5.80% and its price falls.
What to watch for
A wide spread is not a forecast of default or a sign of a bargain; it can reflect genuine credit stress or thin liquidity, and quoted spreads vary with the benchmark and method used.