Managing the Maturity of Fixed-Income Investments in Rising Interest-Rate Environments

The focus of the study is on the trade-off between the opportunity cost of investing in short-term instruments and the loss of the flexibility to reinvest when long-term instruments are chosen in rising-rate environments. The approach of the study resembles the inventory theoretic approach used by B...

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Bibliographic Details
Published inJournal of Financial Planning Vol. 18; no. 8; p. 62
Main Authors Schellhorn, Carolin D, Lushbough, Scott H
Format Trade Publication Article
LanguageEnglish
Published Denver Financial Planning Association 01.08.2005
Subjects
Interest rates
Investors
Maturity
Reinvestment
Securities
Studies
United States > US
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Summary:The focus of the study is on the trade-off between the opportunity cost of investing in short-term instruments and the loss of the flexibility to reinvest when long-term instruments are chosen in rising-rate environments. The approach of the study resembles the inventory theoretic approach used by Baumol (1952) to determine the transaction demand for cash. Applied to the problem of helping investors choose maturities, this approach suggests that investors tend to prefer longer maturities when they face longer investment horizons, when they are less risk averse, and when the current value of the opportunity to reinvest is relatively low. The conclusion is that if the investor is able to identify the longest time to maturity he or she would be comfortable choosing, then the financial planner could estimate the current reinvestment option value and solve the equation for the maturity that minimizes the costs associated with both short-term and long-term investment strategies.
ISSN:1040-3981