I am trying to understand Yield to Maturity. In my notes, it lists two formulas and is a little confusing. Do you have a video explaining this formula. I already vaguely understand what it means. However, the formula explanation in the professor’s notes is a bit confusing.
Hi, we don’t have a video specifically for this topic nor a formula. But the best way to understand Yield to Maturity is this:
“Yield” in general is a return based on a 1-year basis.
For example… You have a bond worth $100 at the beginning of the year and it has an interest payment (or coupon payment) worth $5 which will be paid at maturity after the 1 full year.
So the yield is 5% (because $5 is 5% of $100)
But what if it’s already the middle of the year and therefore only 6 months left until you get the $5 coupon payment?
And what if (let’s assume) the same bond is still being sold in the “secondary” market at $100?
Is your yield still 5%? (remember yield is expressed per 1 full year)
Answer: Nope… because you will get 5% back in HALF a year… which is the same as 10% for a FULL year.
So in this case, your Yield to Maturity is 10% and not anymore 5%.
That was a very simple example, with only one variable changing (the time until maturity).
In reality there could be many different variables that can change (time until maturity, price of the bond in the ‘secondary’ market, etc.)
See the video “Usual Confusion” to see many different variables at play.
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I am trying to understand Yield to Maturity. In my notes, it lists two formulas and is a little confusing. Do you have a video explaining this formula. I already vaguely understand what it means. However, the formula explanation in the professor’s notes is a bit confusing.
Hi, we don’t have a video specifically for this topic nor a formula. But the best way to understand Yield to Maturity is this:
“Yield” in general is a return based on a 1-year basis.
For example… You have a bond worth $100 at the beginning of the year and it has an interest payment (or coupon payment) worth $5 which will be paid at maturity after the 1 full year.
So the yield is 5% (because $5 is 5% of $100)
But what if it’s already the middle of the year and therefore only 6 months left until you get the $5 coupon payment?
And what if (let’s assume) the same bond is still being sold in the “secondary” market at $100?
Is your yield still 5%? (remember yield is expressed per 1 full year)
Answer: Nope… because you will get 5% back in HALF a year… which is the same as 10% for a FULL year.
So in this case, your Yield to Maturity is 10% and not anymore 5%.
That was a very simple example, with only one variable changing (the time until maturity).
In reality there could be many different variables that can change (time until maturity, price of the bond in the ‘secondary’ market, etc.)
See the video “Usual Confusion” to see many different variables at play.
Thanks, for clearing that up, it helped !!