1
Measures of Bond Yields – Yield to Maturity
Yield to Maturity:
defined as
the discount rate
That makes the
present value
of the future cash
flows of A bond equal to its price today.
–
The yield to maturity is measure similar to the IRR.
–
To calculate the
YTM
, we solve the formula for
computing the price of a bond, for the interest rate.
)
y
+
(1
C
+
.
.
.
+
)
y
+
(1
C
+
)
y
+
(1
C
+
)
y
+
(1
C
=
P
N
N
2
2
1
1
B
3
3
1
1
(1
)
(1
)
B
n
n
C
M
P
y
y
y
=

+
+
+
Yield to Maturity – An example
Suppose, you can buy a 15 year, 8% Semiannual
coupon bond for P
B
= $1,125.00. The
YTM
is:
barb4right
y = 3.33%
The annual YTM, or the
Bond Equivalent Yield
= 3.33% x 2 = 6.67%.
Effective Annual Rate = (1+y)
m
– 1
= (1+.033)
2
– 1 = 6.78%
15 2
15 2
40
1
1,000
1,125
1
/2
(1
/2)
(1
/2)
B
x
x
P
y
y
y
=
=

+
+
+
Yield to Maturity – Underlying assumption
•
When we use yield to maturity as a measure of
total return, we in effect make two implicit
assumptions:
–
We assume that the Bond will be held to maturity,
–
We also assume that we shall be able to reinvest
all coupons at the yield to maturity. Put another
way
(a)
that the
Term Structure
of interest rates is currently flat
(b)
that it will remain flat at the current level over the life of
the bond
•
Neither assumption may be valid !!
This preview has intentionally blurred sections. Sign up to view the full version.
View Full Document
2
Yield calculation in
Excel
There are two
Excel
functions:
1.
RATE
(
nper, pmt
, pv, fv, type
)
2.
YIELD
(
settl,t
,
mat.
,
rate
,
pr
,
redem
,
freq
, basis)
•
Settlement
= the security's settlement date.
•
Maturity = the security's maturity date.
•
Rate = the security's annual coupon rate.
This is the end of the preview.
Sign up
to
access the rest of the document.
 Spring '10
 nasseh
 Interest Rates, coupon bond selling, Conventional Yield Measures

Click to edit the document details