Determinants of Bond Yields

An error occurred trying to load this video.

Try refreshing the page, or contact customer support.

Coming up next: Common Stock Valuation & Types of Growth

You're on a roll. Keep up the good work!

Take Quiz Watch Next Lesson
 Replay
Your next lesson will play in 10 seconds
  • 0:02 Bond Returns
  • 0:34 Bond Yield
  • 2:27 Yield Curve
  • 3:36 Lesson Summary
Save Save Save

Want to watch this again later?

Log in or sign up to add this lesson to a Custom Course.

Log in or Sign up

Timeline
Autoplay
Autoplay
Speed Speed
Lesson Transcript
Instructor: Ian Lord

Ian has an MBA and is a real estate investor, former health professions educator, and Air Force veteran.

While bonds are sold with a stated interest rate, there is more to the return than just the coupon rate. Let's look at what bond yields are along with what causes the yield to change and how a yield curve aids in bond investment evaluation.

Bond Returns

Barry chose to include some bonds in his portfolio to have another class of investment besides his shares of stock. A bond is a form of investment where the issuer promises to repay the face value at a certain point in time and often gives periodic interest payments over the life of the bond. In many cases, investors buy bonds from another investor on the secondary market instead of from the original issuer. Let's help Barry identify the determining factors that influence his actual return on investment.

Bond Yield

Bond yield measures an investor's actual return on investment. If Barry buys a 30-year savings bond from the government and cashes it in 30 years later, his yield is the same as the interest rate listed on that bond. If instead he buys a bond that was issued a few years ago, how can he figure out what is a good price or what his own personal yield is on the bond?

In order to find the yield, the investor needs to know what price the bond is worth today and the coupon rate and payment. In bond terminology, the interest rate paid out on a regular basis is known as the coupon. The amount of the coupon payment is determined by multiplying the interest rate by the original issue price of the bond. The yield itself is determined by the formula:

Yield = Coupon Payment / Price

Barry buys a new issue bond for $500 that has a 4% coupon rate. The coupon payment would be worth $20. The yield would be $20 / $500 = 4%. But what if the price of the bond rises or falls? That is where the bond yield shines as an investment return evaluation tool.

If the bond price falls to $460, the coupon payment still remains the same. The yield is now 4.3% ($20 / $460). The yield rises because the same guaranteed return is available at a lower price. Likewise, if the price of the bond rises to $540, the yield is now 3.7% ($20 / $540). In periods of economic uncertainty or recession, bond yields tend to fall as demand increases for safer alternatives to investing in stock. As the demand for bonds rises so does the price, leading to decreased yields.

Yield Curve

The yield curve illustrates the concept that equivalent quality bonds will have yields that fall along a curve on a spectrum of different maturity dates. The maturity date is the time at which the bond issuer repays the face value of that bond.

To unlock this lesson you must be a Study.com Member.
Create your account

Register to view this lesson

Are you a student or a teacher?

Unlock Your Education

See for yourself why 30 million people use Study.com

Become a Study.com member and start learning now.
Become a Member  Back
What teachers are saying about Study.com
Try it risk-free for 30 days

Earning College Credit

Did you know… We have over 200 college courses that prepare you to earn credit by exam that is accepted by over 1,500 colleges and universities. You can test out of the first two years of college and save thousands off your degree. Anyone can earn credit-by-exam regardless of age or education level.

To learn more, visit our Earning Credit Page

Transferring credit to the school of your choice

Not sure what college you want to attend yet? Study.com has thousands of articles about every imaginable degree, area of study and career path that can help you find the school that's right for you.

Create an account to start this course today
Try it risk-free for 30 days!
Create an account
Support