Bond Yield To Maturity Calculator

What is Yield To Maturity

Imagine you buy a bond today and hold it until it matures (the date the issuer repays the principal). The Yield to Maturity (YTM) is the total return you can expect to earn over that entire holding period, expressed as an annual percentage rate.

Think of it like an interest rate for your entire bond investment.

Here's what YTM takes into account:

• Purchase Price: How much you paid for the bond.
• Coupon Payments: The regular interest payments you receive.
• Face Value (Par Value): The amount you get back when the bond matures.
• Time to Maturity: How long until the bond matures.

Illustrative Example of YTM

Let's say you buy a bond for $950 with a 5% coupon rate, a $1,000 face value, and 10 years until maturity. The YTM will be higher than 5% because:

You bought the bond at a discount (below face value).

You'll receive the full $1,000 face value at maturity, earning a capital gain.

Why is YTM useful?

YTM is useful from an investment perspective for a few reasons:

• Comparison: YTM allows you to compare different bonds with varying maturities and coupon rates.
• Total Return: It provides a more comprehensive picture of potential return than just looking at the coupon rate.
• Pricing: YTM helps determine the fair market price of a bond.

In essence, YTM tells you the annual return you can expect if you hold the bond until maturity, assuming all coupon payments are reinvested at the same rate.

Comparison Between Current Yield and YTM

Note that YTM is a different financial metric from current yield. The following is a summary of the key differences between the two metrics.

Current Yield

• Focus: Measures the annual income (interest or dividends) relative to the current market price of the investment.
• Calculation: (Annual Income / Current Market Price) x 100
• Simplicity: Straightforward calculation that doesn't account for future price changes or the time value of money.
• Best for: Assessing the income stream of an investment at a specific point in time, particularly relevant for income-focused investors.

Yield to Maturity (YTM)

• Focus: Represents the total return an investor can expect to receive if they hold the bond until maturity, considering: current market price, coupon payments, time to maturity, reinvestment of coupon payments at the YTM rate
• Calculation: More complex, often requiring iterative methods or financial calculators to solve.
• Time Value of Money: Incorporates the concept that money received in the future is worth less than money received today.
• Best for: Understanding the overall potential return from a bond investment over its entire lifetime.

In summary, current yield is a snapshot of the income generated based on the current market price, whereas YTM provides a more holistic view of the potential return, factoring in the time value of money and the bond's entire lifespan.