DEFINITION of 'Yield Basis'

The yield basis is a method of quoting the price of a fixed-income security as a yield percentage, rather than as a dollar value. This allows bonds with varying characteristics to be easily compared.

BREAKING DOWN 'Yield Basis'

Unlike stocks, which are quoted in dollars, most bonds are quoted with a yield basis. For example, assume a company is listed with a 6.75% coupon rate and is set to mature 10 years from the date of issuance. The $1,000 par bond is trading at a dollar value of 940.00.

The yield basis can be calculated using the current yield formula presented as: Coupon / Purchase Price

Following our example above, the coupon to be paid annually is 6.75% x $1,000 = $67.50. Therefore, the yield basis is $67.50 / $940 = 0.0718, or 7.18%. The bond will be quoted to investors as having a yield basis of 7.18%. The yield quote tells a bond trader that the bond is currently trading at a discount because its yield basis is greater than its coupon rate (6.75%). If the yield basis is less than the coupon rate, this would indicates that the bond is trading at a premium since a higher coupon rate increases the value of the bond in the markets. A bond trader could then compare the bond to others within a certain industry.

The yield basis of a pure discount instrument can be calculated using the bank discount yield formula, which is:

r = (Discount / Par Value) x (360/t)

where r = annualized yield

discount = Par value minus Purchase price

t = time left to maturity

360 = bank convention for the number of days in a year

Unlike the current yield, the bank discount yield takes the discount value from par and expresses it as a fraction of the par value, not the current price, of the bond. This method of calculating the yield basis assumes simple interest, that is, no compounding effect is factored in. Treasury bills are quoted only on bank discount basis.

For example, assume a Treasury bill with a $1,000 face value is selling for $970. If its time to maturity is 180 days, the yield basis will be:

r = [($1,000 - $970)/$1,000] x (360/180)

r = ($30/$1,000) x 2

r = 0.06, or 6%

As Treasury bills pay no coupon, the bondholder will earn a dollar return equal to the discount if the bond is held until it matures.

RELATED TERMS
  1. Effective Yield

    The effective yield is the yield of a bond which has its coupons ...
  2. Running Yield

    Running yield is the annual income on an investment divided by ...
  3. Bond Valuation

    Bond valuation is a technique for determining the theoretical ...
  4. Discount Bond

    A discount bond is a bond that is issued for less than its par ...
  5. Discount

    In finance, discount refers to a situation when a bond is trading ...
  6. Yield

    Yield is the return a company gives back to investors for investing ...
Related Articles
  1. Investing

    Comparing Yield To Maturity And The Coupon Rate

    Investors base investing decisions and strategies on yield to maturity more so than coupon rates.
  2. Investing

    4 basic things to know about bonds

    Learn the basic lingo of bonds to unveil familiar market dynamics and open to the door to becoming a competent bond investor.
  3. Investing

    How Bond Yields Could Topple the Stock Market

    Bond yields have reached a crucial point since the election that could be bad news for the stock market.
  4. Investing

    Corporate Bonds: Advantages and Disadvantages

    Corporate bonds can provide compelling returns, even in low-yield environments. But they are not without risk.
  5. Insights

    Why the 10-Year U.S. Treasury Yield Matters

    10-year treasury bond yields are important indicators of the economy as a whole.
  6. Investing

    Bond yield curve holds predictive powers

    This measure can shed light on future economic activity, inflation levels and interest rates.
  7. Investing

    The Benefits of a Bond Portfolio

    Bonds are often viewed as stocks' less-glamorous sidekick, but they deserve more respect from investors. Learn how a fixed-income portfolio works.
RELATED FAQS
  1. Current yield vs yield to maturity

    Learn about the relationship between a bond's current yield and its yield to maturity, including how the market price of ... Read Answer >>
  2. What is the difference between yield to maturity and the coupon rate?

    A bond's coupon rate is the actual amount of interest income earned on the bond each year based on its face value. Read Answer >>
  3. What is the most common solvency ratios used in fundamental analysis?

    Learn about the difference between a bond's coupon rate and its yield rate, how the coupon rate influences market price and ... Read Answer >>
  4. If I buy a $1,000 bond with a coupon of 10% and a maturity in 10 years, will I receive ...

    See how fixed-income security investors can expect to use coupon rates on semi-annual payments if the bond or debt instrument ... Read Answer >>
  5. What is the difference between yield to maturity and the yield to call?

    Determining various the various yields that callable bonds can provide investors is an important factor in the bond purchasing ... Read Answer >>
  6. What causes a bond's price to rise?

    Should you invest into bonds? Learn about factors that influence the price of a bond, such as interest rates, credit ratings, ... Read Answer >>
Hot Definitions
  1. Gross Profit

    Gross profit is the profit a company makes after deducting the costs of making and selling its products, or the costs of ...
  2. Diversification

    Diversification is the strategy of investing in a variety of securities in order to lower the risk involved with putting ...
  3. Intrinsic Value

    Intrinsic value is the perceived or calculated value of a company, including tangible and intangible factors, and may differ ...
  4. Current Assets

    Current assets is a balance sheet item that represents the value of all assets that can reasonably expected to be converted ...
  5. Volatility

    Volatility measures how much the price of a security, derivative, or index fluctuates.
  6. Money Market

    The money market is a segment of the financial market in which financial instruments with high liquidity and very short maturities ...
Trading Center