Answer: Credit rating

## Explanation **Credit spread** is the additional yield that investors demand for bearing credit risk compared to risk-free securities. It is primarily determined by: - **Credit rating**: Higher credit ratings (better quality) lead to lower credit spreads - **Default probability**: Higher default probabilities lead to higher credit spreads - **Recovery rate**: Lower recovery rates lead to higher credit spreads **Analysis of each option:** - **A. Credit rating**: An increase in credit rating (improvement) leads to a decrease in credit spread. Better credit quality means lower risk, so investors demand less compensation. - **B. Annual default probability**: An increase in annual default probability leads to an increase in credit spread, not a decrease. Higher default risk requires higher compensation. - **C. Cumulative default probability**: An increase in cumulative default probability leads to an increase in credit spread, not a decrease. Higher overall default risk over the security's life requires higher compensation. Therefore, only an increase in credit rating will lead to a decrease in the credit spread.

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