Yield curve, also known as, term structure of interest rates is a graph that shows relationship between yield or interest rates and maturity. Yield curve is plotted for bonds with similar credit rating but with different maturity dates. Under normal circumstances yield of a bond varies in direct proportion to time to maturity (tenor). Long-term bonds carry more risk of default and liquidity risk compared to short-term bonds. Liquidity in short-term bonds is more because of less volatility in interest rates. Long-term bonds should offer short term interest rates plus risk and liquidity premiums. So usually yield of a 10 year treasury bond is more than that of a 1 year treasury bill.
We can compare this with bank interest rates: banks offer more interest rate for long-term deposits compared to short-term deposits. In a yield curve maturity is plotted on x-axis and the corresponding yield values are plotted on y-axis. Yield curve tells us the market expectation of future interest rates, future economic growth and output. Yield curve influences bank rates and identifies arbitrage opportunities.
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Sathish Emmadi
Sathish Emmadi is a co-founder & editor at Lastbull.com. He is presently working in IT for one of the world’s top mutual fund companies. Handled multiple projects in BFSI (Banking,Financial Services and Insurance) domain. An Engineering Graduate from NITW.
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{ 2 comments… read them below or add one }
Yield of a bond inversely varies to time to maturity (tenor).
This is wrong.
Usually bond yields and maturity are positively correlated because of the upward sloping shape of the yield curve which is the normal shape.
Hi Ankit,
You are right. The explanation was written correctly, but the sentence you pointed out was given wrong by mistake. I have corrected it now.
Thank you!