What is a Maturity Mismatch?

The term maturity mismatch can refer to situations when there's a disconnect between a company's short-term assets and its short-term liabilities. In short, the mismatch happens when there are more liabilities than assets. Maturity mismatches can also take place when a hedging instrument and the underlying asset's maturities are misaligned. As such, a maturity mismatch may also be referred to as an asset-liability mismatch.

Key Takeaways

  • Maturity mismatch can refer to situations where a firm's short term liabilities are more than its short term assets.
  • Maturity mismatches are visible on a company's balance sheet and can shed light on its liquidity.
  • Maturity mismatches often signify a company's inefficient use of its assets.
  • When a hedging instrument and the underlying asset's maturities are misaligned, maturity mismatches can also occur.

Understanding Maturity Mismatch

The term maturity mismatch commonly alludes to situations involving a company's balance sheet. A firm cannot meet its financial obligations if its short-term liabilities outweigh its short-term assets. Mismatches also occur when there are far more short-term assets compared to its mid- and long-term assets. Maturity mismatches can shed light on a firm's liquidity, as they show how it organizes the maturity of its assets and liabilities. They can also signify that the company is not using its assets efficiently, which could give rise to a squeeze in liquidity.

Exact matching of maturities—such as cash flows from assets to meet liabilities as they come due—is sometimes not practical nor necessarily desirable. In the case of a bank that requires spread for profitability, borrowing short-term from depositors, and lending long-term at a higher interest rate generates a net interest margin for profits.

Financial firms can benefit from maturity mismatches when they borrow from short-term depositors and lend long-term at higher interest rates, which can lead to higher profit margins.

Mismatches can also take place in hedging. This happens when the maturity of an underlying asset doesn't match the hedging instrument, thus creating an imperfect hedge. For example, a mismatch occurs when the underlying bond in a one-year bond future matures in three months.

Special Considerations

Loan or liability maturity schedules must be monitored closely by a firm's financial officers or treasurers. As much as it is prudent, they will attempt to match expected cash flows of the firm with future payment obligations for loans, leases, and pension liabilities. A bank will not take on too much in short-term funding—liabilities to depositors—to fund long-term mortgage loans or bank assets. Similarly, an insurance company will not invest in too many short-term fixed income securities to meet future payouts, or a city or state treasurer's office will also not invest in too many short-term securities to prepare for long-term pension payments.

In a broader sense, a non-financial firm also carries maturity mismatch risk if, for example, it borrows a short-term loan for a project or capital expenditure that will not produce cash flows until a later year. An infrastructure contractor that takes out a loan with a five-year maturity will create maturity mismatch risk if the cash flows from the project begin in 10 years.

Disadvantages of Maturity Mismatch

Companies that borrow heavily must be mindful of their maturity schedules, as illustrated in the following example. Faced with near-term maturities of 2018 and 2020 for two Senior Secured Second Lien notes, struggling home-builder K. Hovnanian Enterprises issued senior secured notes in 2017. These notes had maturities in 2022 and 2024 to pay off the notes with the shorter maturities. This action was deemed necessary because the company recognized it would not generate sufficient cash to meet the 2018 and 2020 liabilities and had to resort to this to alleviate the issue arising from the initial maturity mismatch.