Term Structure of Interest Rates
The term structure of interest rates refers to the relationship between interest rates or yields and different maturities for debt securities, typically government bonds. It is often depicted as a yield curve, showing how yields change with varying time horizons. This structure helps investors understand market expectations for interest rates, economic outlook, and potential risks. It also guides borrowing and investment decisions by indicating the cost of funds over different periods.
Term Structure of Interest Rates
The term structure of interest rates refers to the relationship between interest rates or yields and different maturities for debt securities, typically government bonds. It is often depicted as a yield curve, showing how yields change with varying time horizons. This structure helps investors understand market expectations for interest rates, economic outlook, and potential risks. It also guides borrowing and investment decisions by indicating the cost of funds over different periods.
💡 Key Takeaways
- Define the term structure and explain what a yield curve represents across different bond maturities.
- Identify common yield curve shapes (normal, inverted, flat) and what each shape suggests about future interest rates and the economy.
- Describe the main factors that shape the term structure, including expectations about future rates, risk premia, and central bank policy.
- Apply the term structure to investment decisions by comparing short-, medium-, and long-term yields and understanding the implied risk–return trade-offs.
❓ Frequently Asked Questions
What is the term structure of interest rates?
It shows how yields vary with the time to maturity for debt securities, usually government bonds, and is often displayed as a yield curve.
What is a yield curve and what shapes can it take?
A graph of yields against maturities. It can be upward-sloping (normal), flat, or inverted, reflecting market expectations and risk premia.
Why does the yield curve slope up or down?
An upward slope typically means longer maturities offer higher yields to compensate for time and risk; a downward/inverted slope suggests expectations of falling rates or tighter policy.
How do investors use the term structure in practice?
To price bonds, gauge future interest-rate expectations, manage risk with duration, and implement strategies based on expected curve movements.
What theories explain term-structure shapes?
Common theories include the Expectations Theory (future rates), Liquidity Preference (premia for longer maturities), and Market Segmentation (supply/demand differences across maturities).