What Is Tenor? Definition, How It Works, and Example

What Is Tenor?

Tenor refers to the length of time remaining before a financial contract expires. It is sometimes used interchangeably with the term maturity, although the terms have distinct meanings. Tenor is used in relation to bank loans, insurance contracts, and derivative products.

Understanding Tenor

Tenor is often used in relation to bank loans and insurance contracts, whereas the term maturity is more often used when describing government bonds and corporate bonds. Colloquially, the two terms have very similar meanings, and they may be used interchangeably for different types of financial instruments.

The term tenor is also used in relation to non-standard financial instruments, such as derivative contracts. In this context, it is often used when describing the riskiness of a particular security.

For instance, a futures contract with a long tenor could be said to be relatively risky because there is still significant time in which its value might fall. Derivatives with shorter tenors would likewise be viewed as less risky. As compensation for this perceived risk, buyers of high-tenor securities will generally require compensation in the form of lower prices or higher risk premiums.

Depending on their risk tolerance and financial objectives, some investors may even systematically avoid securities with tenors longer than the specified period. For instance, a company wishing to manage its short and medium-term liquidity needs might buy and sell debt instruments with tenors of five years or less. In this context, adjustments might be made based on the perceived creditworthiness of the counterparties involved. For instance, a company might accept a five-year tenor for counterparties with high credit ratings, while limiting poorly-rated counterparties to tenors of three years or less.

Tenor vs. Maturity

From a technical perspective, tenor and maturity have distinct meanings. Whereas tenor refers to the length of time remaining in a contract, maturity refers to the agreed-upon end date of the agreement upon its inception.

For example, if a 10-year government bond was issued five years ago, then its maturity would be 10 years and its tenor—the time remaining until the end of the contract—would be five years. In this manner, the tenor of a financial instrument declines over time, whereas its maturity remains constant.

Example of Tenor

Alex is the chief financial officer (CFO) of a mid-size publicly traded corporation. As part of their portfolio of responsibilities, they must ensure that the company has adequate working capital to carry out its operations.

To that end, Alex buys and sells short and medium-term financial instruments with tenors ranging between one and five years. They do so in the corporate bond market as well as through over-the-counter derivative transactions with various counterparties.

Currently, Alex's portfolio includes several instruments from highly creditworthy counterparties with maturities of five years. Because they were purchased three years ago, these securities have tenors of two years. Their portfolio also includes instruments from counterparties with weaker credit ratings. For these instruments, they limit their maximum tenor to three years, in order to manage their counterparty risk.

Special Considerations

Tenor is particularly important in a credit default swap because it coordinates the term remaining on the contract with the maturity of the underlying asset. A properly structured credit default swap must match the maturity between contract and asset. If there is a mismatch between the tenor and the asset's maturity, then integration is not likely. Furthermore, coordination between cash flows (and subsequent calculation of yield) is only possible when tenor and asset maturity are linked.

The Bottom Line

Understanding the tenor of any financial instruments a company may hold, such as a short- or long-term derivative, is crucial to maintaining a steady cash flow and analyzing a contract's riskiness.

Correction—April 10, 2024: This article has been edited from a previous version that incorrectly defined maturity as the initial length of a contract upon its inception. Maturity refers to the date when a transaction or investment ends.