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A bond’s coupon rate is the amount of interest income it earns each year based on its face value. A bond’s yield to maturity is its total estimated return if the bond is held until maturity. Investors base investing decisions and strategies on yield to maturity more so than coupon rates.

Suppose a bond has a $1,000 face value and issues semi-annual interest payments of $20, totaling $40 a year. Its coupon rate is 4%. That coupon is fixed. No matter what price the bond trades for, it will pay $40 a year in interest.

A bond’s yield and its price are inversely related. At face value, a bond’s yield and coupon rate are the same. But if the same bond sells at a premium price of $1,100, its yield is 3.63%, or $40 divided by $1,100.

Yield to maturity approximates a bond’s average return until it matures. It applies a single discount rate to all future interest payments in order to create a present value that’s close to the price of the bond. The calculation includes the coupon rate, the price of the bond, the difference between price and face value, and time until maturity.

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