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To make appropriate decisions in bond investing, it is important to understand the concept of the yield calculations that bonds receive. As an important aspect of investing basics, bond yields are the rate of return you receive after purchasing a bond and are the accounting measurements that allow you to compare one bond with another. Two yield calculations are generally evaluated when it comes to selecting callable bonds for a portfolio: yield to maturity and yield to call.

Yield to Maturity

A bond’s yield to maturity calculation provides you with the total return you would receive if the bond was held through its maturity date. Yield to maturity assumes that all interest payments are received from the date of purchase until the bond reaches maturity, and that each payment is reinvested at the same rate as the original bond. However, you can utilize the spot rate to determine market value of a purchase, as this metric takes into account fluctuating interest rates. Yield to maturity is based on the coupon rate, face value, purchase price and year until maturity, calculated as:

Yield to maturity = {Coupon rate + (Face value – Purchase price/years until maturity)} / {Face value + Purchase price/2}

Yield to Call

For most bond investors, it is important to also estimate the yield to call, or the total return that would be received if the bond purchased was held until its call date instead of full maturity. Because it is impossible to know when an issuer may call a bond, you can only estimate this calculation based on the bond’s coupon rate, the time until the first (or second) call date, and the market price.

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