Reinvestment risk


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Reinvestment risk

The risk that proceeds received in the future may have to be reinvested at a lower potential interest rate.

Reinvestment Risk

A risk that an investment, usually a bond, will be paid off early and that the money earned may not be able to be reinvested in a security with a comparable return. Suppose one invested in a bond with coupon payment of 4%. However, the issuer calls the bond and pays the par value. The investor has made a profit, but interest rates have fallen and now he/she may only purchase a bond with coupons of 2.5%. Theoretically, one might purchase a mortgage-backed security or other investment in which all the mortgage holders backing the MBS may pay back their mortgages early, exposing one to reinvestment risk. However, in reality, this risk exists primarily in callable bonds and certificates of deposit.

reinvestment risk

The possibility that the cash flows produced by an investment will have to be reinvested at a reduced rate of return. For example, the owner of a certificate of deposit faces the risk that lower interest rates will be in effect when the certificate matures and the funds are to be reinvested.

Reinvestment risk.

Reinvestment risk occurs when you have money from a maturing fixed-income investment, such as a certificate of deposit (CD) or a bond, and want to make a new investment of the same type.

The risk is that you will not be able to find the same rate of return on your new investment as you were realizing on the old one. In fact, the return could be significantly lower, based on what's happening in the economy at large, though it could also be higher.

For example, if a bond paying 6% interest matures when the current rate is 4%, you must settle for a lower return if you buy a new bond unless you're willing to buy one of lower quality.

One way to limit reinvestment risk is by using an investment technique known as laddering, which means splitting your investment among a number of bonds or CDs that mature gradually over a series of years.

That way only part of your total investment will mature and have to be reinvested at any one time.

References in periodicals archive ?
Investors have the option to either invest the proceeds from RQD into a subsequent maturity of an RBC Target Maturity Corporate Bond ETF or to utilize the proceeds in a ladder strategy to help manage interest rate and reinvestment risk.
He outlines principles that can be applied at any time, in any investment cycle, and at any age, and examines the bond market, what it is, how it functions, the various individual products, and how to use the market profitably, as well as key strategies, how to find and choose an investment advisor, the mathematics of bonds, the concept of duration, how to forecast interest rates, bonds for the speculator, retirement planning, reinvestment risk, bond mutual funds, and guaranteed investment certificates (GICs) vs.
One way plan sponsors can avoid reinvestment risk is to put the collateral into very safe investments, like money market funds.
Minimize interest-rate reinvestment risk in lower interest-rate environments, since the higher rates are "locked in" to the longer maturities
By matching the duration of the bond to the investment horizon, interest rate and reinvestment risk can be offset.
The advantage of the pre-funding scenario is that it transfers future funding risk to the capital markets at the inception of the transaction but has the disadvantage of reinvestment risk (negative carry) until the funds are fully deployed in the reinsurance trust.
The risks of long-term investments are market risk (the risk that changes in interest rates will reduce the value of the security), reinvestment risk (the risk that the investor will have to reinvest funds at a lower rate), and illiquidity risk (the risk that the security cannot be sold prior to maturity without incurring a significant loss).
Inflation-indexed bonds may have significant reinvestment risk.
This policy increased the reinvestment risk of M2 deposits, i.
This requires borrowers that are paying off loans early to compensate lenders for lost interest as well as reinvestment risk.
Reinvestment risk occurs when interest payments during the bond term cannot be reinvested at the market rate.
No material reinvestment risk is associated with any funds awaiting distribution to the holders of the security.