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Yield to maturity
The yield to maturity (YTM), book yield or redemption yield of a fixed-interest security is an estimate of the total rate of return anticipated to be earned by an investor who buys it at a given market price, holds it to maturity, and receives all interest payments and the capital redemption on schedule.
It is the theoretical internal rate of return, or the overall interest rate, of a bond — the discount rate at which the present value of all future cash flows from the bond is equal to the current price of the bond. The YTM is often given in terms of annual percentage rate (APR), but more often market convention is followed. In a number of major markets, the convention is to quote annualized yields with semi-annual compounding.
The YTM calculation formulates certain stability conditions of the security, its owner, and the market going forward:
The YTM calculation accounts for the effect of the current market price on the yield going forward, but omits the possible effects of contingent events. Hence it is not an expected, or risk-adjusted rate. The YTM will be realized only if the above assumptions are met, and factors such as default risk or reinvestment risk do not occur. The total return realized at maturity is likely to differ from the YTM calculated at the time of purchase, perhaps considerably.
In practice, the rates that will actually be earned on reinvested interest payments are a critical component of a bond's investment return. Yet they are unknown at the time of purchase. The owner takes on reinvestment risk, which is the possibility that the future reinvestment rates will differ from the yield to maturity at the time the security is purchased. Reinvestment is not a factor for buyers, who intend to spend rather than reinvest the coupon payments, such as those practicing asset/liability matching strategies.
Some literature claims that earning the yield to maturity does not require the investor reinvest the coupon payments, and that assuming reinvestment is a common mistake in financial literature.
The yield is usually quoted without making any allowance for tax paid by the investor on the return, and is then known as "gross redemption yield". It also does not make any allowance for the dealing costs incurred by the purchaser (or seller).
As some bonds have different characteristics, there are some variants of YTM:
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Yield to maturity
The yield to maturity (YTM), book yield or redemption yield of a fixed-interest security is an estimate of the total rate of return anticipated to be earned by an investor who buys it at a given market price, holds it to maturity, and receives all interest payments and the capital redemption on schedule.
It is the theoretical internal rate of return, or the overall interest rate, of a bond — the discount rate at which the present value of all future cash flows from the bond is equal to the current price of the bond. The YTM is often given in terms of annual percentage rate (APR), but more often market convention is followed. In a number of major markets, the convention is to quote annualized yields with semi-annual compounding.
The YTM calculation formulates certain stability conditions of the security, its owner, and the market going forward:
The YTM calculation accounts for the effect of the current market price on the yield going forward, but omits the possible effects of contingent events. Hence it is not an expected, or risk-adjusted rate. The YTM will be realized only if the above assumptions are met, and factors such as default risk or reinvestment risk do not occur. The total return realized at maturity is likely to differ from the YTM calculated at the time of purchase, perhaps considerably.
In practice, the rates that will actually be earned on reinvested interest payments are a critical component of a bond's investment return. Yet they are unknown at the time of purchase. The owner takes on reinvestment risk, which is the possibility that the future reinvestment rates will differ from the yield to maturity at the time the security is purchased. Reinvestment is not a factor for buyers, who intend to spend rather than reinvest the coupon payments, such as those practicing asset/liability matching strategies.
Some literature claims that earning the yield to maturity does not require the investor reinvest the coupon payments, and that assuming reinvestment is a common mistake in financial literature.
The yield is usually quoted without making any allowance for tax paid by the investor on the return, and is then known as "gross redemption yield". It also does not make any allowance for the dealing costs incurred by the purchaser (or seller).
As some bonds have different characteristics, there are some variants of YTM: