How to measure yield in Debt market?
Mirae Asset Knowledge Academy
Yield can be measured in two ways: Current Yield and Yield to Maturity
Yield to Maturity is the most popular measure of yield in the Debt Markets. YTM refers to the rate of
return an investor receives if the investor holds on to the bond till its maturity
The calculation for YTM is based on the coupon rate, the length of time to maturity and the market price
of the bond. YTM is basically the Internal Rate of Return on the bond. One of the major assumptions
underlying the YTM is that the coupon interest paid over the life of the bond is assumed to be reinvested
at the same rate.
The yield to maturity is found in the present value of a bond formula:
For calculating yield to maturity, the price of the bond, or present value of the bond, is already known.
Calculating YTM is working backwards from the present value of a bond formula and trying to determine
what r is.
Current Yield is the coupon rate divided by the Market Price and gives a fair approximation of the
present yield.
Yield Price Relationship :
Yield and price have inverse relationship that is to say, when a bond’s price falls its yield rises and viceversa. When prevailing interest rates rise, prices of outstanding bonds fall to bring the yield of older bonds
into line with higher-interest on new issues
Variants of yield to maturity
As some bonds have different characteristics, there are some variants of YTM:

Yield to call: when a bond is callable (can be repurchased by the issuer before the maturity), the
market looks also to the Yield to call, which is the same calculation of the YTM, but assumes that
the bond will be called, so the cash flow is shortened.

Yield to put: same as yield to call, but when the bond holder has the option to sell the bond back
to the issuer at a fixed price on specified date.

Yield to worst: when a bond is callable, puttable, exchangeable, or has other features, the yield to
worst is the lowest yield of yield to maturity, yield to call, yield to put, and others.
Yield Curve
The slope of a yield curve is a good indicator of the economic activity. The yield curve also reflects the
investors view about the future interest rates.
Normal or Upward Sloping Yield Curve: An upward sloping or steep yield curve indicates an economic
upsurge. This states that the economic growth will bring in high inflation which would lead the central
banks to increase the interest rates to control the inflation.
Inverted Yield Curve :The inverted yield curve indicates that the market currently expects interest rates
to decline as time moves farther into the future, which in turn means the market expects yields of longterm bonds to decline. This usually indicates economic contraction. Interest rate decline is expected in the
future. As interest rates decline, bond prices will move higher and yields will decrease. This may be the
result of central banks loosening the monetary policy to revive the economy.
Flat Yield Curve: Sends mixed signals that short-term interest rates will rise and other signals that longterm interest rates will fall. This may indicate a transitionary period to economic expansion or contraction.
A flat curve indicates slowdown of economy. This usually happens when central banks try to contain
inflation by increasing interest rates, thus increasing short term yields. However, with the actions taken,
the expectations of high inflation begin to subside to moderate inflation and expectations of higher long
term rates also fall.
Current Yield Curve
Source: Bloomberg, July 19, 2013
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