Effects
Amortization of debt has two major effects:
- Credit risk
- First and most importantly, it substantially reduces the credit risk of the loan or bond. In a bullet loan (or bullet bond), the bulk of the credit risk is in the repayment of the principal at maturity, at which point the debt must either be paid off in full or rolled over. By paying off the principal over time, this risk is mitigated.
- Interest rate risk
- A secondary effect is that amortization reduces the duration of the debt, reducing the debt's sensitivity to interest rate risk, as compared to debt with the same maturity and coupon rate. This is because there are smaller payments in the future, so the weighted-average maturity of the cash flows is lower.
Read more about this topic: Amortizing Loan
Famous quotes containing the word effects:
“I am fearful that the paper system ... will ruin the state. Its demoralizing effects are already seen and spoken of everywhere ... I therefore protest against receiving any of that trash.”
—Andrew Jackson (1767–1845)
“Some of the greatest and most lasting effects of genuine oratory have gone forth from secluded lecture desks into the hearts of quiet groups of students.”
—Woodrow Wilson (1856–1924)
“Each of us, even the lowliest and most insignificant among us, was uprooted from his innermost existence by the almost constant volcanic upheavals visited upon our European soil and, as one of countless human beings, I can’t claim any special place for myself except that, as an Austrian, a Jew, writer, humanist and pacifist, I have always been precisely in those places where the effects of the thrusts were most violent.”
—Stefan Zweig (18811942)