What Is Term to Maturity?
Let me explain what term to maturity means for a bond. It's the length of time during which you, as the owner, will receive interest payments on your investment. When the bond reaches maturity, the principal gets repaid to you.
Key Takeaways
You need to know that a bond's term to maturity is the period where you get those interest payments. At maturity, you're repaid the par or face value. Remember, this term can shift if the bond includes a put or call option. Bonds fall into three main groups based on their terms: short-term ones lasting one to three years, intermediate-term from four to 10 years, and long-term from 10 to 30 years.
Understanding Term to Maturity
Generally, the longer the term to maturity, the higher the interest rate you'll see on the bond, and its price will be less volatile in the secondary market. Also, the farther out the maturity date, the bigger the gap between what you pay to buy it and its redemption value, which is the principal, par, or face value.
Other elements affect that difference between the bond's price and par value, including the issuer's creditworthiness. Whether the bond is callable matters too.
Interest Rate Risk
Long-term bonds come with higher interest rates to offset the interest rate risk you're taking. You're committing your money for a long period, risking that rates might rise and leave you missing out on better returns. In that case, you'd have to sell the bond at a loss to reinvest at the higher rate.
The term to maturity is a key factor in the interest rate a bond pays—the longer it is, the higher the return. Short-term bonds pay less interest, but they give you flexibility; your money comes back in a year or less, ready to invest at a potentially higher rate.
In the secondary market, a bond's value depends on its remaining yield to maturity plus its face or par value.
Why Term to Maturity Can Change
For many bonds, the term to maturity stays fixed, but it can change with certain provisions like call, put, or conversion.
Provisions That Can Alter Term to Maturity
- A call provision lets the company pay off the bond early if rates drop, so they can issue new bonds at a lower rate.
- A put provision allows you to sell the bond back to the company at face value, perhaps to free up cash for another investment.
- A conversion provision lets you turn the bond into company stock shares.
An Example of Term to Maturity
Take The Walt Disney Company, which raised $7 billion through bonds in September 2019. They issued bonds with six different maturity terms, covering short, medium, and long durations. The 30-year long-term bond paid 0.95% more than comparable Treasury bonds.
Keep in mind, I'm not giving investment advice here. This information doesn't consider your specific objectives, risk tolerance, or financial situation, and it might not suit every investor. Investing carries risks, including potential loss of principal.
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