Yield to Maturity vs Effective Interest Rates

CFA Level I
#1

So the Yield to Maturity (YTM) is the Effective Interest Rate of a bond that we can then convert to an effective Annual Yield???

Thanks in advance!

#2
  • Effective Interest Rate is the rate which can be used to discount all the future payaments from the bond to get the current selling price of the bond
  • YTM is therefore equal to Effective interst rate of bond

But Effective annual yield is different. Effective annual field is the annualized return you get from the bond. This would be the yearly return you get in a single year.

This Effective Annual Yield = Coupon rate of Bond

#3

Effective annual yields are not the same thing as coupon rates. Coupon rates are nominal.

Yield to maturity is also a nominal rate based on the frequency of coupons.

#4

Effective Annual Yield is not the coupon rate. The coupon rate is nominal and does not account for compounding. EAY is an annualized rate that takes compounding return into account.

For e.g., 6% semi-annual pay coupon on a 1000 par bond has a coupon rate of 6% but an EAY of 6.09% [{(1 + semi-annual coupon)^2} - 1].

#5

Oh ok :slight_smile: My bad… thanks guys :slight_smile: