## Definition of Yield to Maturity

Yield to maturity is the total return that will be earned by someone who purchases a bond and holds it until its maturity date. The yield to maturity might also be referred to as:

- Yield
- Internal rate of return
- Market interest rate at the time that the bond was purchased by the investor

The yield to maturity is expressed as an annual percentage rate.

## Example of Yield to Maturity

Assume that a 5% $100,000 bond will mature in 5 years and will pay interest each June 1 and December 1. This means that the bondholder will be paid interest of $2,500 every six months until the bond matures.

If the *current market interest rate* for this type of bond is 6%, the current market value of the 5% bond will be *less than* $100,000. Assume that the market value for this bond is only $95,735. (The market value is computed by discounting 1) the $2,500 of interest that will be received every six months for 5 years to its *present value* and 2) the $100,000 maturity amount that will be received at the end of 5 years. These cash amounts are discounted by the market interest rate of 3% per semiannual period for 10 semiannnual periods.)

You can also view the yield to maturity of this bond as the following two components:

- the
*current yield*of slightly more than 5.2% because the investor is receiving cash of $2,500 every six months ($5,000 per year) on an investment of only $95,735. - a gain of $4,265 because the investor bought the bond for $95,735 but will receive $100,000 when the bond matures.