Yield To Maturity

Yield to maturity is generally called as YTM, is referred as the total return expected on a bond if it is held until its original stated redemption date. A complex calculation that includes coupon and prevailing interest rates, remaining bond term, par value and current market price. The most widely used measure of a bond’s rate of return is the yield to maturity.

In practice, traders and investors find it useful to refer to a bond’s yield to maturity or yield, the single rate when used to discount a bond’s cash flows produces bond’s market price. While indeed useful as a summary measure of bond pricing, yield to maturity can be misleading as well. Contrary of the beliefs of some market participants, yield is not a good measure of relative value or of realized return to maturity. In particular, if two securities with the same maturity have different yields, it is not necessarily true that the high yielding security represents better value. Furthermore, a bond purchased at a particular yield and held to maturity will not necessarily earn that initial yield.

Perhaps the most appealing interpretation of yield to maturity is not recognized as widely as it should be. If a bond’s yield to maturity remains unchanged over a short time period, that bond’s realized total rate of return equals its yield. Yield to maturity is the single rate such that discounting a security’s cash flows at that rate produces the security’s market price.

The yield to maturity hinges on two assumptions:

• The bonds are held to maturity
• The interest payments obtained are then reinvested at the equivalent rate like

 The YTM

If the bond is not held till maturity, you could calculate the internal rate of the bond by substituting the sale price of the bond for the maturity value and the period held to the sale date for the period to maturity.

Questionnaire:

• What is yield to maturity?
• What are the uses of yield to maturity?