Definition: What are 1 Year Bonds?
1 year bonds are bonds with an extremely short maturity date.
Most corporate or government issued bonds have very long term durations, with some having terms as long as 25 or 30 years.
One year bonds, however, come due exactly one year after they are issued, meaning that the borrower has to repay your principle and the stated interest one year from the initial issue date.
1 year bonds normally have a much lower interest rate when compared with their longer term counterparts.
Why the Lower Interest Rate?
When you take out a bond with a very long maturity period, you’re assuming a lot more risk.
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A lot can happen in the 25 or so years that you expect to hold the long term bond for.
As such, investors expect a higher interest payment to compensate them for the higher risk exposure.
Smaller Inflation Risk with One Year Bonds
One of the problems with long term bonds is that inflation plays a more noticeable part in the value of a dollar over a longer period of time.
Since you’re risking the possibility that your principle will be worth less when you invest in a long term bond, the interest rate is made higher in order to still make it worth your while to invest in it.
With one year bonds, the investor is taking a much smaller risk, so the issuer can get away with offering lower interest rates.
However, 1 year bonds prove a good option for someone who wants to keep some money in bonds for a short period of time before transitioning money to a different investment.
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