Spread and Ratings: What They Measure and How to Interpret Them

Reading time 5 minutes

Published on 31/12/2025

The year now drawing to a close has been a positive one for assessments of our country's financial soundness. The spread has fallen and Italy's credit rating has improved. Spread and rating: two related terms, but what do they really mean? And why are they so important for anyone investing, even indirectly, through funds or ETFs?

These two indicators act rather like a compass or a thermometer: they measure certain risks linked to investments in bonds, whether issued by a government - such as Italian Treasury Bonds (BTPs) - or by a company (corporate bonds).

What is the spread?

The term spread entered everyday language in 2011, when several European countries, including Italy, faced serious challenges over the sustainability of their public debt during the sovereign debt crisis. Let's look more closely at what this term means.

In the case of bonds, the spread is the difference between the yields to maturity (or 'interest rates') of two securities issued by different entities, assuming all other features remain the same. For Italian public debt, 'the spread' refers to the difference between the yield - or rate of return - on the 10-year BTP (around 3.5 per cent on 29 December 2025) and that on the equivalent 10-year German government bond (around 2.8 per cent). On 29 December, it was therefore roughly 0.7 per cent - significantly lower than at the end of 2024, when it exceeded 1.1 per cent.

Spreads are often expressed in basis points. One basis point equals 0.01 per cent. So a spread of 0.7 per cent corresponds to 70 basis points. As a comparison, the historical peak recorded in 2011 for Italy exceeded 5.7 per cent, or about 570 basis points.

Germany is usually the benchmark for euro-area bond spreads, as it is considered the most financially solid issuer - that is, the most reliable debtor - in the euro area.

What does the spread tell us?

If investors perceive that a state or any other issuer is less able to repay its debt, they will demand a higher return to compensate for the increased risk. As a result, the spread widens.

The spread:

• updates instantly and can be very volatile, especially in periods of uncertainty such as phases of political or market instability
• does not always reflect a country's economic fundamentals or a debtor's actual ability to repay, as investors also respond to risk appetite and prevailing sentiment

It offers a useful signal, much like body temperature: a sudden rise may be a warning sign, but it does not, on its own, diagnose the underlying issue. Other tests and assessments are needed.

A well-known saying attributed to investor Benjamin Graham goes: 'In the short run, the market is a voting machine, but in the long run, it is a weighing machine.' Day-to-day or month-to-month movements in spreads can mirror opinions, fears, or emotions. Over the long term, however, spreads tend to reflect economic fundamentals more reliably, and provide a measure of a debtor's ability to repay and of a bond's credit risk.

What is a rating?

In 2025, not only did the spread fall, but Italy's rating also improved. Notably, Moody's - one of the three major rating agencies - upgraded Italy's rating for the first time in 23 years, signalling greater confidence in the country's financial position.

A rating is a score, similar to a school report. It is assigned by specialised firms - rating agencies - to reflect a borrower's ability to repay long-term debt (the issuer rating) or the quality of a specific bond (the issue rating). The two are not always the same: for example, a bond with particular guarantees may be rated differently from its issuer.

Ratings result from an in-depth analysis of overall economic conditions and the specific characteristics of a bond. For countries, assessments also consider factors such as political stability.

Issuer ratings, such as Italy's, have two components:

• the rating, which evaluates the issuer's financial soundness at the time of assessment
• the outlook (positive, stable, or negative), which indicates the likely direction of future rating changes

Ratings are not updated continuously like spreads, but at scheduled intervals, unless exceptional circumstances arise.

How to read a rating

Ratings expressing the financial soundness of a borrower or the risk associated with a bond still use letters, symbols (+ or -), or equivalent numbers. They range from AAA or equivalent (highest reliability) to D, the lowest rating, which indicates default (insolvency). Borrowers or securities rated from AAA to BBB- are considered investment grade. In 2025, Moody's upgraded Italy from BBB- to BBB (using the equivalent scale). Bonds rated below BBB- are regarded as riskier and are known as speculative or junk bonds.

This matters because pension funds or mutual funds may be permitted to invest only in investment-grade bonds. In such cases, the rating becomes a binding criterion. Ratings therefore guide both retail investors and large institutions such as banks, insurers, and other investment managers who apply rating-based rules.

Spread and rating, though different, ultimately measure the same underlying phenomenon: a debtor's ability to repay. Over the long term, they tend to move in the same direction - improving financial soundness (lower spread, higher rating), as happened for Italy in 2025 - while in the short term they may diverge. It is not uncommon for spreads - which are also influenced by a number of other factors - to fluctuate while ratings remain unchanged.

What can small investors do?

Understanding these concepts - spreads and ratings - helps us make informed investment decisions, whether we entrust our savings to a manager or purchase bonds directly. They offer valuable insights into investment risk.

Knowing how to read them allows us to follow the two golden rules of investing: higher returns always come with higher risks; and diversifying across issuers, sectors, and instruments is a simple and effective way to manage risk for any given expected return.