What is Yield to Maturity (YTM)?
Definition
Yield to maturity is the total return anticipated on a bond if held until it matures, expressed as an annual percentage. It accounts for the bond's current price, coupon payments, face value, and time to maturity, making it the most comprehensive bond yield measure.
Detailed Explanation
YTM is the internal rate of return of a bond's cash flows—it is the discount rate that makes the present value of all future coupon payments and the face value equal to the bond's current price.
When a bond trades at par (face value), YTM equals the coupon rate. When it trades at a discount (below par), YTM is higher than the coupon rate because the investor gains from the price appreciation to par at maturity. When it trades at a premium (above par), YTM is lower than the coupon rate.
YTM assumes all coupons are reinvested at the same YTM rate, which may not be realistic if rates change. The realized yield (actual return) may differ from YTM due to reinvestment risk.
Investors use YTM to compare bonds with different coupons, prices, and maturities on an equal basis. A bond with a 3% coupon trading at $90 may have a higher YTM than a 5% coupon bond trading at $110, despite the lower coupon rate.
Formula
Price = Sum of [Coupon / (1 + YTM)^t] + Face Value / (1 + YTM)^n (solved for YTM)Example
A $1,000 face value bond with a 4% coupon and 5 years to maturity trades at $950. Its YTM is approximately 5.1%, reflecting the coupon income plus the $50 gain to par at maturity.
Frequently Asked Questions
Is YTM guaranteed?
How is YTM different from coupon rate?
Why is YTM important?
Related Terms
Bond
A bond is a fixed-income security where the investor lends money to an issuer (government or corporation) for a defined period at a fixed or variable interest rate. Bonds pay periodic interest (coupons) and return the principal at maturity.
Coupon Rate
The coupon rate is the annual interest rate paid by a bond's issuer relative to the bond's face value. A bond with a $1,000 face value and 5% coupon pays $50 per year in interest, typically in semiannual installments.
Duration
Duration measures a bond's sensitivity to interest rate changes, expressed in years. A duration of 5 means the bond's price will change approximately 5% for every 1% change in interest rates. Longer duration means more interest rate risk.
Treasury Securities
Treasury securities are debt instruments issued by the US government to fund federal spending. They are considered the safest investments in the world and serve as the benchmark for all other interest rates. Types include bills, notes, and bonds.
See It in Action
Disclaimer: The information on this page is provided for educational and informational purposes only and does not constitute investment advice. AI-generated analysis may contain errors or inaccuracies. Always conduct your own research and consult a qualified financial advisor before making investment decisions.
See Yield to Maturity (YTM) in Action
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