It is important to note that the calculation of the bond yield involves making use of existing data on current price of the bond rather than the price at the time of purchase. Determining the status of the bond yield also requires understanding the current annual coupon associated with the binding. The calculation for a bond yield also usually require that the buyer will keep the tapes for at least a period of one year.
A simple formula to calculate a bond yield involves dividing the annual coupon of the bond price. As an example, if the bond was priced at $ 100.00 U.S. Dollars (USD) with an annual coupon of $ 6.00 USD will give the bond to be estimated at six percent. However, assume this provides that there will be no change in price and the buyer will keep tapes for at least one year.
If there is a change in interest rates leading to a change in the current price of the bond, the bond offer indicates a capital loss. Using the same example, if the bond price fell to $ $ 90.00, this would result in a loss of $ 10.00 dollars, which is partially offset by the coupon of $ 6.00 USD. Is still a capital loss of $ 4.00 USD for the annual period continued. By the same token, would a shift upward in the price of the bond increases the capital gains realized from the investment universe.
Understand how the bond yield functions is important for investors. In considering factors that are likely to influence the future value of the bond, investors can determine whether it is in their best interest to buy bonds and hold it for at least a year. If the projections indicate that the binding is very likely to produce a decent profit for one or two years, the investor can choose to buy the issue. But if there are indications of the bond will fall in value during the first year, which means that the investor will likely not be able to sell bonds for NOK to break even, much less make a profit on your investment. In this situation the investor would do well to look at bonds or go with a completely different investment opportunities.
To select a bond from a myriad of options available in the market, an investor needs to calculate ROI (Return On Investment). This return, which shows how lucrative a bond, is also known as Bond yield, or yield to maturity. Thus, the bond yield, the cumulative return on a bond, taking into account all the interest and the difference between purchase price and face value of the bond.
Apart from yield, an investor needs to know two other types of gear. These are:
Coupon yield: The annual interest rate established at the time of the issuance of a bond.
Current capacity: the relationship between the annual interest payment to the bond’s current price.
Investors generally consider the yield (YTM) to measure the profitability of a bond. The steps to calculate the YTM of a bond with face value of $ 1000 and a 7% interest rate is:
Find the amount of annual interest rates offered by bonds. In the example above, the bond offers an annual rate of $ 70
If the purchase price of the bond is lower than nominal value, the profit on the price being the difference between the purchase price. Thus, if you bought the bond at $ 940 and hold it to maturity, you will realize a gain of at least $ 60.
To calculate the bond yield, mean that the coupon rate is compounded annually, and you reinvest the interest in the bond.
Consider the maturity of the bond and the purchase price to calculate compound interest on the bond for that period. If the bond is due in five years, would compound interest on the bond be $ 378.40.
Thus, the total return on investment in the bond $ 378.40 + $ 60 = $ 438.40.
Derive the percentage return on investment. For this, multiply the total return on investment by 100 and part of the purchase price of the bond. Thus, the binding generates 46.63% ROI ($ 438.40 * 100/940 = 46.63%).
Calculate the effective interest rate for this loan by dividing the percentage return on your investment at maturity period. This is 46.63 / 5 = 9.33% yield to maturity.
Investors can also calculate the current yield with the following formula:
Current Yield = [(Coupon ÷ Bond Price) x nominal value] + [(Par Value – Bond Price) ÷ YTM]
The return of a bond is largely determined by its rate. The interest that a bond pays depends on a number of factors, including prevailing interest rates and the creditworthiness of the issuer, which, of course, is what is considered by credit rating companies such as Standard & Poor’s and Moody’s. The higher the credit rating of the issuer, the less interest the issuer has to offer to sell their bonds. Current interest cost of money, determined by supply and demand of money.
Like almost everything else, the greater offer, and the lower demand, the lower the interest rate, and vice versa. A commonly used measure of the current interest rate is prime rate charged by banks to their best customers.
In general bonds pay interest semi-annually until maturity, when the bondholder receives the par value of bond returns. Zero coupon bonds pay no interest but are sold at a discount to par value, payable when the loan matures.
Nominal Interest Rate, Interest
Nominal interest rate, or the interest rate, stated rate of interest on the bond. This gives the percentage is the percentage of par value-$ 5,000 for municipal bonds, and $ 1000 for most other bonds, which are usually paid twice a year. Thus, a bond with a $ 1,000 face value that pays 5% interest rate pay $ 50 dollars per year in two semi-annual payments of $ 25 The return of a bond’s return / investment, or in the example just cited, $ 50 / $ 1,000 = 5%.
Because the bonds trade in the secondary market, they sell for less or more than nominal value, which will provide an interest rate that is different from the nominal interest rate, called the current yield, or yield. The price of bonds moves in the opposite direction of interest rates. If prices go up, the price of bonds decreases, if rates go down, bonds rise in value. To see why, consider this simple example. You buy a bond when it is issued for $ 1,000 that pays 8% interest rate.
Suppose you want to sell the bond, but since you bought it, the rate increased to 10%. You will have to sell the tapes for less than what you paid, because why someone will pay you $ 1000 for a bond that pays 8% when they can buy a similar bond of the same credit rating and get 10%.
So to sell your bond, you would have to sell it so that $ 80 received per year in interest rates will be 10% of the sales price-in this case, $ 800, $ 200 less than what you paid for it.
(Actually, the price probably would not go this low, because the yield to maturity is greater in this case, since if bondholders hold bonds to maturity, he will receive a price appreciation is the difference between NOK 1000, the bond’s face value, and what he paid for it.) bonds sell for less than face value is said to be selling at a discount. If the market interest rate on a new bond is lower than what you get, you will be able to sell the tapes for more than face value, you should sell your bond at a premium.