Current yield refers to the income you receive from a bond divided by its current market price, expressed as a percentage.
In general, yield simply refers to the income on an investment over a period of time, but investors generally use the term “current yield” in association with bonds.
In this article, we further define current yield, focusing on its relevance to individual investors. Learn about the formula to determine current yield, related terms, and how current yield applies to investments other than bonds.
Definition and Example of Current Yield
Current yield is the income, or interest, you receive from a bond divided by its current market price, expressed as a percentage.
If you take the annual interest you receive from a bond and divide it by the bond’s present market price and multiply by 100, you have the bond’s current yield. For example, a bond with a market value of $1,000 that pays $20 per year would have a current yield of 2%.
The amount of interest you receive on a bond purchase does not change. Yield is merely a function of a bond’s market price, not its coupon rate, which is its interest rate based on the par value of the bond.
If you buy that bond for $1,000, that pays $20 interest annually, but its market value increases to $1,100 one month later, then its current yield would decline from 2% when you bought the bond to 1.8%. Your bond would still pay $20 per year in interest, but since its value increased, its current yield would decline.
Similarly, if the same bond declined in value, it’s current yield would increase. If the bond’s value declined to $900, the interest of $20 per year would be 2.2% of the market value, up from the 2% coupon rate when you first bought the bond.
If you buy the same bond at a discount for $900, the bond still pays $20 interest each year. However, because you bought the bond for a price less than its par value, the current yield increases to 2.2%.
No matter how the market price of a bond fluctuates, it will always pay the same amount of interest as indicated by its coupon rate, but it’s current yield may change. You can buy bonds at a premium or discount to its face value to get a different actual return on investment than the stated coupon rate.
How Current Yield Works
Knowing a bond’s coupon yield and current yield can help you anticipate your return on investment. Let’s take a look at the math to calculate current yield.
Again, if you receive $20 in annual interest on a bond with a par value of $1,000, the coupon rate is 2%.
$20 / $1,000 = 0.02 X 100 = 2%
As the market price of the bond changes, you divide the same interest payment by the current market value to get the bond’s current yield. So if the same bond increased in value to $1,100, it’s current yield would decline to 1.8%.
$20 / $1,100 = 0.018 X 100 = 1.8%
Similarly, if that bond’s market value declined to $90, it’s current yield would increase to 2.2%.
$20 / $900 = 0.022 X 100 = 2.2%
It is important not to confuse current yield with yield to maturity, which tells how much you’ll make on your principal investment if you hold a bond to maturity, assuming that coupon and principal payments are made on time.
What Current Yield Means for Individual Investors
Investors can use current yield, along with other types of yields, to help determine their expected return on the bond, so they can decide whether to include it in their portfolio. An investor can compare current yields against expected income from other assets such as other bonds or dividend stocks.
While yields are important to consider when choosing assets, investors must consider a range of factors about their personal situation, including their risk tolerance and investing horizon.
The term “current yield” is generally used in the context of bonds, but more broadly, you can apply the term to other investments yielding returns in the current market. For example you can also calculate your yield on a rental property by dividing the expected profits for a year (income after subtracting liabilities such as a mortgage payment) by the property’s current market value.
Similarly, you could calculate the current yield of a dividend stock by dividing the stock’s annual dividend payment by the market value of one of its shares.
Keep in mind that with bonds, the annual interest payments remain fixed, but income from other assets, such as real estate or dividend stocks, can change.
- A current yield is the interest rate a bond pays, expressed as a percentage of its market price.
- To determine the current yield of a bond investment, divide the bond’s annual interest by the market value of the bond.
- A bond’s current yield changes when its market value changes, but the fixed amount of annual interest you receive does not change.