Interest Rate Risk
The risk that rising interest rates will cause the market value of fixed-income investments to fall, since bond prices move inversely to yields.
What is Interest Rate Risk?
Interest rate risk is the risk that changes in prevailing interest rates will adversely affect the value of a fixed-income investment. Because bond prices and yields move inversely—when rates rise, existing bond prices fall, and vice versa—all fixed-rate bonds are exposed to interest rate risk. The primary measure of a bond's sensitivity to interest rate changes is duration: a bond with a duration of 7 years will lose approximately 7% of its value for each 1 percentage point rise in yields. Longer-maturity and lower-coupon bonds have higher duration and therefore greater interest rate risk. Interest rate risk is distinct from credit risk (the risk of default) and is most relevant in rising-rate environments.
Example
In 2022, the Federal Reserve raised the federal funds rate by 4.25 percentage points—one of the fastest tightening cycles in history. The Bloomberg U.S. Aggregate Bond Index, which had an average duration of approximately 6.5 years, lost roughly 13% in price terms—one of the worst years for U.S. investment-grade bonds on record. Long-duration Treasury bonds with 20–30 year maturities fell 25–35%, illustrating the amplified interest rate risk of longer bonds.