Bond Yield

What Is a Bond Yield?

A bond yield is the return an investor receives from a bond, stated as a percentage. A bond is a loan made to a government or company. In exchange, the issuer makes periodic interest payments, called the coupon payment, and repays the face value on a set date. Bonds are bought and sold after they are issued, so the yield an investor earns depends on the price paid, not only on the coupon. The same bond can offer a higher or lower yield depending on its market price at the time of purchase.

Common Types of Bond Yield

Several yield measures exist, and each answers a different question:

• Coupon rate: the fixed interest rate stated on the bond, based on its face value.
• Current yield: the annual coupon income divided by the bond's current market price.
• Yield to maturity: the estimated annual return if the bond is held until it matures, including coupon payments and any gain or loss from buying above or below face value.

How Current Yield Is Calculated

Current yield = annual coupon payment ÷ current market price

For example, a bond with a $1,000 face value and a 5% coupon pays $50 a year. If it trades at $950, the current yield is $50 ÷ $950, or about 5.3%. If the price rose to $1,050, the current yield would fall to about 4.8%. The coupon payment never changed, but the yield did, because the market price moved.

Why Bond Prices and Yields Move in Opposite Directions

Bond prices and yields generally move inversely. When market interest rate levels rise, newly issued bonds offer higher coupons, so existing bonds with lower coupons become less attractive and their prices tend to fall. That fall raises their yield for new buyers. When rates decline, existing bonds with higher coupons become more desirable, prices tend to rise, and yields fall.

Yield measures also have limits. Current yield ignores any gain or loss that will occur when the bond matures. Yield to maturity assumes that all coupon payments are reinvested at the same yield and that the issuer makes every payment on time. A bond yield is an estimate based on current pricing, not a guaranteed return.