Interest rate risk is the risk that investments already held will lose market value if new investments with higher interest rates enter the market. It affects the value of bonds more directly than stocks, and is a major risk to all bondholders.Let’s say Sam Jones buys a 30-year bond for $5000 with a fixed rate of 3%, or $150, per year. He can hold this bond for 30 years, collect $150 per year, and get his $5000 back when his bond matures. Alternatively, he can sell it at any time for the prevailing market price in the secondary bond market. Interest rate risk is the risk that, should he sell it before 30 years, the price he will get in the secondary bond market may be lower than $5000 due to changes in market interest rates. Assume that for one year, market interest rates don’t change. Sam’s bond continues to hold its original face value of $5000 in the secondary market. After one year however, market interest rates rise, and new bonds come on the market that pay 4%, or $200 per year. Since bond buyers can now get 4% bonds, the market value of Sam’s 3% bond declines. Sam continues to hold his bond. Ten years later, rates fall to 2.5%. Now bond buyers prefer his 3% bond to the new 2.5% bonds. This raises the value of his bond, making it worth more than $5000 in the secondary market.