Glossary term
Yield to Maturity (YTM)
Yield to maturity is the annualized discount rate that equates a bond's current price with the present value of its coupons and principal repayment if held to maturity.
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What Is Yield to Maturity?
Yield to maturity, or YTM, is the annualized discount rate that equates a bond's current price with the present value of its future coupon payments and principal repayment, assuming the bond is held to maturity and the issuer pays on time. It is one of the most common ways investors compare bonds with different prices, coupons, and maturities.
YTM is not the same as coupon rate. The coupon rate tells you the annual interest payment as a percentage of face value. YTM reflects the price paid, coupon income, time to maturity, and the gain or loss from the bond moving toward par by maturity.
Key Takeaways
- YTM estimates the annualized return from buying a bond at its market price and holding it to maturity.
- It incorporates coupons, principal repayment, time, and price discount or premium.
- Bond prices and yields move in opposite directions.
- YTM assumes scheduled payments are made and generally assumes coupon reinvestment at the same yield.
- Taxes, transaction costs, default, early calls, and actual reinvestment rates can make realized return different.
Present Value Formula
A simplified annual coupon-bond YTM relationship is:
Here, C is the coupon payment per period, y is the yield per period, and n is the number of periods until maturity. YTM is the yield that makes the present value of the cash flows equal the bond's current price.
For example, a bond with a $1,000 face value, a 5% coupon, and a market price below $1,000 will usually have a YTM above 5%, assuming no default. The investor receives coupon payments and also expects price accretion back toward par at maturity.
How to Read It
YTM is useful because it puts the bond's cash flows into one annualized number. A 4% coupon bond trading at a discount may offer a higher YTM than a 5% coupon bond trading at a premium. Without YTM, comparing those two bonds would be clumsy.
The measure is strongest for plain-vanilla bonds that are not likely to be called and that the investor expects to hold to maturity. It is less complete for callable bonds, amortizing bonds, floating-rate notes, defaulted bonds, or bonds with unusual redemption terms.
Where It Can Mislead
YTM is an estimate, not a promise. If the investor sells before maturity, the sale price may dominate the outcome. If coupons are reinvested at lower rates, realized return may fall short of YTM. If the issuer calls the bond, yield to call or yield to worst may be more relevant. If the issuer defaults, YTM becomes secondary to recovery value.
Taxes matter too. A taxable bond and a municipal bond with the same YTM can produce different after-tax results. Premium amortization, original issue discount, and account type can also affect what the investor actually keeps.
The Bottom Line
Yield to maturity is a core bond-return estimate that converts price, coupons, principal, and time into one annualized yield. It is essential for comparing bonds, but investors should pair it with credit analysis, call features, taxes, liquidity, and expected holding period.