Yield on Cost (YOC) is the annual dividend rate of a security, divided by its average cost basis. (Here, the cost basis is defined as original or purchase price of the security or position. An average cost basis could be useful if the investor bought a position in a company in several steps over time; the average cost basis would be the average purchase price of these positions.)
Yield on Cost shows the dividend yield of the original investment. If the number of shares owned by the investor does not change, the yield on cost will increase if the company increases the dividend it pays to shareholders; otherwise, the yield on cost will remain constant.
Breaking Down Yield On Cost (YOC)
Because the yield on cost depends on the original price paid for the investment, the same stock portfolio can have a different yield on cost if its holdings are purchased over varying periods of time. For this reason, some investors instead choose to focus on current yield when comparing the dividends of different stocks.
Calculating Yield on Cost
To calculate yield on cost for a stock, an investor must divide the stock's annual dividend by the average cost basis per share and multiple the resulting number by 100 (to arrive at a percentage).
For example, an investor who purchased 100 shares of Microsoft (MSFT) on January 3rd, 2018 at the opening bell of the market at $86.06 and another 100 shares at the open on Jan. 4, 2018, at $86.59, would have an average cost basis of $86.33/share. If the annual dividend is $1.68 per share, the yield on cost would be 1.95% ($1.68/$86.33 * 100).
The Yield on Cost Versus Current Yield
Many investors opt to use the current yield to compare the dividends of different stocks. One difference between the yield on cost and the current yield is that the yield on cost is helpful when understanding the income performance of an existing investment. In contrast, current yield can help investors decide between potential investments, based on their present income performance.
Current yield can be calculated as annual cash flows/market price.
For example, the current yield of Microsoft stock would be $1.68/$87.46=0.019 (date: afternoon trading sessions, Jan. 4, 2018).
Another way to calculate the current yield on a bond: If an investor purchases a 5% coupon rate bond for a discount of $900, she will earn annual interest income of ($1,000 X 5%), or $50. The current yield on this debt security is then ($50) / ($900), or 5.56%. If the investor purchases a bond at a premium of $1,100, her current yield would be ($50) / ($1,100), or 4.55%.