Investing term

What is Default risk?

The risk that a bond issuer fails to make a payment on time.

Default risk is the chance a bond issuer fails to pay interest or principal on time. It's the central risk of lending: you might not get your money back. Governments borrowing in their own currency rarely default, since they can ultimately print it; shaky companies do so far more often, and when they fail, bondholders can lose much of their investment.

Credit ratings exist to grade this risk, from top-tier 'investment grade' down to speculative 'junk'. Because investors won't lend to riskier borrowers for the same return as safe ones, bonds with higher default risk must offer higher yields to attract buyers. That extra yield is the market's price for the added chance of not being repaid.

Extra yield for the chance of loss
Government bondrarely defaults4%Junk bondhigh default risk9%The extra 5 points isn't free — it's payment for a real chance of not being repaid.

A junk bond yields 9% against a government bond's 4% because it's far likelier to default. The extra 5 points is payment for that risk — not a free upgrade.

For example

A junk bond yields 9% while a government bond yields 4% — that extra 5 points is compensation for much higher default risk.

Learn it by doing

That's Default risk in theory — it clicks when you use it. Practise it hands-on in a free, interactive lesson (Stage 4, Stocks, Bonds, Cash & Alternatives).

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Why it matters to you

Default risk matters because it explains why some bonds pay so much more than others — the extra yield isn't free money, it's payment for the real possibility of loss. Chasing the highest-yielding bonds without weighing default risk is how income-seekers get burned when a shaky issuer stops paying. Understanding that yield rises with default risk keeps you from mistaking a warning sign for a bargain.

⚠ Chasing yield without weighing the risk

A bond paying far more than its peers isn't generous — it's pricing in a real chance the issuer won't pay. Income investors who reach for the highest yields often end up holding the riskiest borrowers, right when a downturn makes defaults spike. High yield is compensation for high default risk, not a free upgrade.

Frequently asked questions

What is default risk?

Default risk is the possibility that a bond's issuer fails to make its interest or principal payments on time. It's the core risk of lending money through bonds. Higher default risk means a greater chance of loss, which is why riskier issuers must offer higher yields.

How is default risk measured?

Credit rating agencies grade issuers on a scale from top-quality 'investment grade' down to speculative 'junk' or 'high-yield'. Lower ratings signal higher default risk. The market also prices it directly: the extra yield a bond pays over a safe government bond reflects its perceived default risk.

Which bonds have the lowest default risk?

Bonds issued by stable governments in their own currency have the lowest default risk, since such governments can ultimately create the money to repay. Highly rated corporate bonds come next, while lower-rated or 'junk' corporate bonds carry the highest default risk and pay the highest yields to compensate.

Related terms

AlternativesInvestments outside the core stocks/bonds/cash mix — REITs, commodities, gold, crypto.BondA loan from you to an issuer (government or company), repaid with interest on a known schedule.Capital gainThe profit from selling an investment for more than you paid.CommodityA raw physical good like gold, oil, wheat, or copper — priced by the ounce, barrel, or bushel.
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