Yield to maturity

So why would an investor ever agree to buy a negative yield bond? Well, to really understand the answer, we first need to go over some basic bond information.

If you already know about yield to maturity and things like that, you can skip ahead using the timestamp in the description below.

Otherwise, stay tuned and we'll cover the basics.

Standard bonds will often have their features defined when you purchase them.

This price can be a discount to face value, meaning that the new investor pays less than $1,000 and can receive the coupon payments and a bit of a bonus at the end when the bond comes due.

Or it can be a premium to the face value, meaning the investor will actually lose a bit on what they paid for the bond.

Because the price of a bond may differ from its actual par value, your actual return likely won't equal the coupon rate, but will rather be closer to the yield to maturity, an estimate of your annual return if you hold the bond until maturity and interest rates don't change.

This percentage considers both the appreciation

Current yield is high because you paid less for the same interest flow.

And YTM is high still because it's held to maturity.

The discount also moves toward par.

So for a discount bond.

Nominal.

Current.

YTM.

Low to high.

As the bond's price goes up above par, the yields go down.

For a premium bond, the order is nominal, current, YTM, YTC.

For a discount bond, the order is reversed.

This can help you quickly eliminate wrong answers on yield questions.

Yeah, the text outlines several distinct yield metrics.

Let's start with the undisputed heavy wage, the metric you see on literally every brokerage screen yield to maturity or YTM.

What exactly is this metric trying to tell us?

Yield to maturity is an attempt to distill all the chaotic variables of a bond.

The first assumption is that you hold the bond all the way to maturity.

No selling early.

The second assumption, and the text explicitly warns about this, is that every single coupon payment you receive over the life of the bond is immediately reinvested back into the market at the exact same YTM rate.

And that reinvestment assumption is the fatal flaw of YTM in a real world application.