Real-Life Examples Section
Example scenario:
Calculations:
Annual coupon payment: $1,000 × 5% = **$50**
Capital gain: $1,000 – $950 = $50
Approximate YTM: ($50 + ($50 ÷ 10)) ÷ (($1,000 + $950) ÷ 2) = 5.64%
Current yield: ($50 ÷ $950) × 100 = 5.26%
Status: Discount ($950 < $1,000)
FAQs
1. What is yield to maturity (YTM)?
Yield to maturity is the total return an investor earns if a bond is held until maturity. It includes all coupon payments plus any capital gain or loss from buying the bond at a price different from face value.
2. How is YTM calculated?
YTM is the discount rate that equates the present value of all future cash flows to the bond’s current price. An approximate formula exists, but exact YTM requires iterative calculation.
3. What is the difference between YTM and current yield?
Current yield only measures annual coupon income relative to price. YTM includes coupon income plus capital gain or loss. YTM is a more complete measure of total return.
4. What is a good YTM for a bond?
A good YTM depends on the market and credit quality. Investment-grade corporate bonds yield 4-6%, high-yield bonds 6-10%, and Treasuries 3-5%. Compare to similar bonds.
5. Why is YTM higher than current yield for discount bonds?
For discount bonds, YTM includes the capital gain from buying below face value and holding to maturity. Current yield only counts coupon income. The capital gain increases total return.
6. Why is YTM lower than current yield for premium bonds?
For premium bonds, YTM includes the capital loss from buying above face value. This loss reduces total return below the current yield.
7. What is the difference between YTM and yield to call?
Yield to call calculates return if the bond is called before maturity. YTM assumes the bond is held to maturity. Yield to call applies to callable bonds.
8. How does YTM change with bond price?
YTM and bond price move inversely. When price falls, YTM rises. When price rises, YTM falls. This reflects the inverse relationship between bond prices and yields.
