Term to Maturity: The Blueprint for Bond Investments
Overview
A bond’s term to maturity is the essential timeline over which the bondholder receives interest payments. Upon maturity, the principal, or the bond’s face value, is fully repaid. This period defines the bond’s investment horizon, guiding both returns and associated risks.
Key Takeaways
- The term to maturity is the duration within which a bondholder receives regular interest payments.
- Repayment of the bond’s principal occurs when the bond reaches its maturity date, returning the capital to the investor.
- Certain bonds come with options—put and call provisions—that allow the term to maturity to adjust.
Categorizing Bonds by Term to Maturity
Investors classify bonds based on their maturity terms into three main types:
- Short-Term Bonds: Typically mature within one to three years.
- Intermediate-Term Bonds: Mature in four to ten years.
- Long-Term Bonds: Generally have maturity periods spanning 10 to 30 years.
The Dynamics of Term to Maturity
The term to maturity impacts a bond’s interest rate and price stability. Bonds with longer terms tend toward higher interest rates to compensate for time-bound risks and market volatility on secondary markets. The further away a bond’s maturity date, the greater the potential margin between its buying price and redemption value (principal).
Understanding Interest Rate Risk
Long-term bonds often offer higher interest rates as compensation for interest rate risks, bearing the possibility of locking in returns at lower rates if market interest rates surge. Conversely, short-term bonds afford investors superior flexibility with quicker returns and the opportunity for reinvestment at prevailing higher rates.
In trading or the secondary market, a bond’s value hinges on its internal yield to maturity juxtaposed against its face value.
Factors That Can Change Term to Maturity
While many bonds sport fixed terms, those with callable, puttable, or convertible provisions have variable maturities:
- Call Provision: Allows companies to redeem bonds before their maturity date, usually to refinance at lower interest rates.
- Put Provision: Enables bondholders to sell bonds back to the issuer at face value, aiding reinvestment strategies.
- Conversion Provision: Permits bondholders to swap bonds for company equity, allowing investors to capitalize on company growth prospects.
An Insightful Example: The Walt Disney Company Case
In September 2019, The Walt Disney Company undertook a massive bond issuance raising $7 billion. Notably, this move included a diversified range of bonds categorized by maturity. Among these, a standout long-term bond holds a 30-year maturity, offering 0.95% above the rate of comparable U.S. Treasury bonds, a strategic mix of returns aimed at various investor preferences.
Related Terms: call provision, put provision, conversion provision, interest rate risk, face value, par value.
References
- Financial Regulatory Authority. “Bond Basics”.
