Residual maturity

Residual maturity

Bond investments often have a very specific time horizon. Even though certain bonds are listed and sold on the secondary market, you must generally be ready to hang onto your assets until they mature. It causes many people to worry about the notion of making investments in long-term fixed-income securities. However, only some people truly comprehend the need to pay greater attention to a bond’s residual maturity than its duration. 

What is residual maturity? 

A residual maturity is a time remaining on a security’s term at purchase. For example, if a bond has a face value of US$1,000 and a coupon rate of 5% purchased 10 years into its 20-year term, its residual maturity would be 10 years.  

The main advantage of investing in securities with a residual maturity is that the investor knows exactly how long the deposit will be held before it matures and can plan accordingly. Additionally, because the investor knows the exact maturity date, they can more easily compare different securities and choose the one with the most favourable terms. 

Understanding residual maturity 

It’s important to remember that the residual maturity differs from the original maturity. The original maturity is the amount of time originally set for the bond. In contrast, residual maturity is the time left until the bond matures. Investors should consider this when considering bonds, as it can affect the price and the interest payments. 

Bonds with a shorter residual maturity are typically more expensive than bonds with a longer residual maturity. This is because investors are willing to pay more for a bond closer to maturing. Generally, the closer a bond matures, the more predictable its interest payments will be. This is because there is less time for things to change (such as the bond’s interest rate) that could affect the payments. 

Types of residual maturity 

There are two types of residual maturity: short-term and long-term.  

• Short-term residual maturity 

It is when the remaining maturity on a security is less than one year.  

• Long-term residual maturity  

It is when the remaining maturity on a security is greater than one year. 

Example of residual maturity 

Let us understand residual maturity from an example. For instance, let’s say you have a US$1,500 US$ bond with a residual maturity of five years. This means five years are left until the bond matures, and you will receive the full US$1,500. Residual maturity is important to consider when investing in bonds, as it can give you an idea of how long you will have to wait to get your money back. 

Importance of residual maturity 

The residual maturity is important because it can give investors an idea of how much time they have left to receive interest payments, and it can also affect the bond’s price.  

The importance of residual maturity lies in its ability to provide insight into the risk and return of a security. For example, a security with a longer residual maturity typically has a higher risk and return than a security with a shorter residual maturity. This is because a longer residual maturity exposes the security to more interest rate risk and market risk. As such, investors typically demand a higher return for holding a security with a longer residual maturity. 

The importance of residual maturity can also be seen in its impact on the price of a security. For example, a security with a longer residual maturity will typically have a higher price than a security with a shorter residual maturity. This is because a longer residual maturity exposes the security to more interest rate risk and market risk. As such, investors typically demand a higher price for holding security with a longer residual maturity. 

For investors, understanding the importance of residual maturity is essential for making informed investment decisions. 

Frequently Asked Questions