Interest rate risk are the risks that investors are exposed due to fluctuations in interest rate. The Interest rate risk depends on the tenor of the investment. Higher the tenor, more will be the fluctuations in the pricing trends, and more vulnerable will be the returns from that investment.
Components contributing to the interest rate risk
- Basis (Changes in basis points in the market quotes)
- Price (Changes in the trend of the pricing mechanism)
- Yield (Fluctuations in the yield pattern)
- Reinvestment (the applicable interest rate when the principal or the interest earned will be reinvested)
- Embedded option (Effect of prepayment of loans or premature withdrawals of deposits)
- Gap (The tenor left for maturity, more the gap, higher the sensitivity)
So, we can infer that the changes in interest rate offered at different instances exposes both the investor as well as the borrower to interest rate risk. The period between revision of interest rates is not uniform and hence difficult to accurately determine any trend. The interest rate that is offered is market linked and related to the demand of various products. Also various regulations and policy changes have an impact on the interest rates.
Inflation rates has an impact on the interest rates too.
Recommended Read :
- What is Interest Rate?
- What is Fixed Rate of Interest?
- What is Floating Rate of Interest?
- Effects of Interest Rate Fluctuations
- Who controls Interest Rates?
- Who sets Fixed Deposit interest rate?
- Inflation Vs Interest Rates
- What is Interest Rate Risk?
- How Interest Rates affect Real Estate Business?
- What is Compound Interest?
- Prime Lending Rate PLR
- What is Interest Income?
- What is Interest Rate After Tax?
A very short and to the point article. The various factors that effect the interest rate are the tenure, fluctuation in the market, the amount, premature withdrawal and reinvestment. Though it might be fixed at the time of investment but it is suspetabile to the above factors. Changes in goverment policies and inflation are some of the other factors affecting the inetrest rate.