Definition: Yield to maturity is the total earnings or return an investor anticipates earning from a bond assuming they keep it until it matures. This includes all interest and coupon payments as well as any premium or discount adjustments.
What does yield to maturity mean?
What is the definition of yield to maturity? The yield to maturity of a bond is the total annual return on the bond if it is held until the maturity date. When a bond is purchased, it can either be sold at a discount or at a premium.
Let’s take a look at an example of both.
Example
If a bond is sold at a discount, the sale price of the bond is actually lower than the face amount or the amount printed on the bond itself. For instance a $1,000 bond might only sell for $900. Conversely, if a bond is sold at a premium, the sale price of the bond is actually higher than the face value of the bond. In this case, a $1,000 might sell for $1,100.
So the YTM on a bond purchased at a discount would include the annual interest from the bond as well as the gain on the appreciation of the bond. Remember, a bond sold at a discount slowly appreciates over its life until the value of the bond equals the face amount. This appreciation is included in the YTM.
The YTM of a bond that is purchased at a premium is the opposite. Since the original purchase price was greater than the face amount, this bond will slowly depreciate (amortize) until the value is equal to face amount on the bond. So the YTM on a bond purchased at a premium includes the annual interest minus the loss from the bond decrease in value.
Summary Definition
Define Yield to Maturity: Yield to maturity represents the total return a bondholder will receive if he holds the investment until it matures. This is usually expressed in an annual rate like the internal rate of return.
