Weighted average maturity is a calculation used for mortgage-backed securities and bonds to determine the time to final payment for each asset in the portfolio. It does not provide insight into the quality of individual investments but can give a clearer picture of the collateral’s long-term time to pay.
Weighted average maturity is a term more commonly applied to mortgage-backed securities, which are a type of derivative investment made up of many individual mortgages. A calculation based on the combined value of all mortgages in collateral and the time to maturity, or time to final payment, for each mortgage yields the weighted average maturity. The higher the figure resulting from the weighted average maturity calculation, the longer the assets underlying the derivative collateral will be until final payment.
The calculation of the weighted average maturity of an investment begins with the total value of all the assets that comprise the security. The value of each asset is divided by the total value of all assets; that result is multiplied by the remaining years to maturity of the individual asset. That step is repeated for each individual asset in the portfolio. Adding the results for each asset provides the weighted average maturity of the security.
In mathematical calculations, the term “weight” refers to the relative importance of one number to others. Dividing the value of an individual asset in a portfolio by the total value of all the assets in a portfolio produces the weight of the individual asset in relation to the total portfolio. A weighted average goes a step further by calculating the total relative importance of all the assets in a portfolio.
For those evaluating a security, weighted average maturity offers no insight into the quality of the individual investments underlying the value or the cumulative quality of the assets. The figure provides a unique account of how long the asset will continue to generate income if the underlying assets remain healthy. Reviewing the weighted average maturity over time can give an even clearer picture of the collateral’s long-term time to pay, again assuming the health of the underlying assets.
The term weighted average maturity also applies to a calculation used to value bonds. Called the Macaulay duration and named for economist Frederick Macaulay, this calculation is designed to help account for the risk of changing interest rates on the value of a bond. Macaulay determined that unweighted averages were not useful in trying to predict such risks. Your bond’s duration discounts the bond’s cash flow with its yield to maturity, multiplies it by the cash flow time, and divides it by the bond’s price.
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