Yield to maturity YTM is the total return anticipated on a bond if the bond is held until it matures. Yield to maturity is considered a long-term bond yieldbut is expressed as an annual rate. In other words, it is the internal rate of return IRR of an investment in a bond if the investor holds Yield to maturity means bond until maturity and if all Yield to maturity means are made as scheduled. Yield to maturity is very similar to current yield, which divides annual cash inflows from a bond by the market price of that bond to determine how much money one would make by buying a bond and holding it for one year.
In other words, it factors in the time value of moneywhereas a simple current yield calculation does not. As such, it is often considered a more thorough means of calculating the return from a bond. The method for calculating YTM can then be represented with the following formula:.
Bonds can be priced at a discountat paror at a premium. A bond priced above par, called a premium bondhas a coupon rate higher than the interest rate, and a bond priced below par, called a discount bondhas a coupon rate lower than the interest rate.
So if an investor were calculating YTM on a bond priced below par, he or she would solve the equation by plugging in various annual interest rates that were higher than the coupon rate until finding a bond price close to the price of the bond in question. The complex process of determining yield to maturity means that it is often difficult to calculate a precise YTM value. Instead, one can approximate YTM by using a bond yield table.
Though yield to maturity represents an annualized rate of return on a bond, coupon payments are often made on a semiannual basis, so YTM is often calculated on a six-month basis as well.
To calculate YTM here, the Yield to maturity means flows must be determined first. Next, we incorporate this data into the formula, which would look like this:.
Now we must solve for the interest rate "i," which is where things start to get difficult. Yet, we do not have to start simply guessing random numbers if we stop for a moment to consider the relationship between bond price and yield.
As was mentioned above, when a bond is priced at a discount from par, its interest rate will be greater than the coupon rate. Having determined the range of rates within which our interest rate lies, we can take a closer look and Yield to maturity means another table showing the prices that YTM calculations yield with a series of interest rates increasing in increments of 0.
Using interest rates with smaller increments, our calculated bond prices are as follows:. If at this point we found that using an interest rate of 6. Yield to maturity means such, it should be clear why most investors prefer to use special programs to narrow down the interest rates rather than calculating through trial-and-error, as the calculations required to determine YTM can be quite and time-consuming.
Yield to maturity can be quite useful estimating whether or not buying a bond is a good investment.
An investor will often determine a required yieldor the return on a bond that will make the bond worthwhile, which may vary from investor to investor. Once an investor has determined the YTM of a bond he or she is considering buying, the investor can compare the YTM with the required yield to determine if the bond is a good buy.
Yet, yield to maturity has other applications as well. Yield to maturity has a few common variations that are important to know before doing research on the subject. One such variation is Yield to call YTCwhich assumes that the bond will be calledthat is, repurchased by issuer before it reaches maturity, and thus, has a shorter cash flow period.
Another variation is Yield to put YTP. YTP is similar to YTC, except for the fact that the holder of a put bond can choose to sell back the bond at a fixed price on a particular date.
YTW bonds can be called, put, or exchanged, and generally have the lowest yields out of YTM and its variants.
Like any calculation "Yield to maturity means" attempts to determine whether or not an investment is a good idea, yield to maturity comes with a few important limitations that any investor seeking to use it would do well to consider.
In this case, YTM is known as the gross redemption yield. YTM calculations also do not account for purchasing or selling costs.
Another important limitation of both YTM and current yield is "Yield to maturity means" these calculations are meant as estimates and are not necessarily reliable. Actual returns depend on the price of the bond when it is sold, and bond prices are determined by the market and can fluctuate substantially.
Though this limitation generally has a more noticeable effect on current yield, because it is for a period of only one year, these fluctuations can affect YTM significantly as well.
For more on yield to maturity, read Advanced Bond Concepts: Yield and Bond Price. Current yield is the annual income interest or dividends divided The gross yield is the yield on an investment before the deduction A zero-coupon bond is a debt security that doesn't pay interest Learn the basic lingo of bonds to
Yield to maturity means familiar market dynamics and open to the door to becoming a competent bond investor.
Any investor, private or institutional, should be aware of the diverse types and calculations of bond yields before an actual investment. A guide to help to understand the simple math behind fixed-coupon corporate bonds. about how investors should evaluate bond performance. See how the maturity of a bond can impact its exposure to interest rate risk.
Yield to maturity is a basic investing concept used by investors to compare bonds of different coupons and times until maturity. Understanding bond prices and yields can help any investor in any market. To determine the value of a bond today — for a fixed principal par value to be repaid in the future — we can use an Excel spreadsheet.
It is difficult to make money in bonds in a rising rate environment, but there are ways to avoid losses. Learn about the differences between a bond's yield to maturity YTM and its holding period return, and why bondholders should Learn "Yield to maturity means" the relationship between a bond's current yield and its yield to maturity, including how the market price of A bond's yield to maturity (YTM) is the estimated rate of return based on the assumption that it will be held until its maturity date and not called.
Definition of yield to maturity in the Financial Dictionary - by Free online English dictionary and encyclopedia.
What is yield to maturity? Meaning of yield to. Yield to maturity (YTM) is the rate of return expected on a bond which is held till maturity.
It is essentially the internal rate of return on a bond and it equates the.