Yield to Maturity

What Is Yield to Maturity?

Yield to maturity (YTM) is the most comprehensive measure of a bond's expected return. It represents the annualized return an investor will earn by buying a bond at its current market price and holding it until maturity, assuming all coupon payments are reinvested at the YTM rate and the issuer does not default.

YTM accounts for three components of return: periodic coupon income, any capital gain or loss from buying at a price different from par, and the assumed reinvestment income from coupons. It is the single number that summarizes a bond's total return profile.

Why It Matters for Markets

YTM is the standard metric used to compare bonds across different coupons, maturities, and prices. When bond traders quote yields, they typically mean YTM. The benchmark Treasury yield curve is constructed from YTMs of on-the-run Treasury securities at various maturities.

Understanding YTM is essential for making informed investment decisions. Two bonds might have the same coupon but different prices, resulting in different YTMs. A 5% coupon bond trading at $950 has a higher YTM than the same bond trading at $1,050. YTM normalizes these differences into a single comparable metric.

Changes in YTM drive bond prices. When market yields rise, bond prices fall to bring existing bonds' YTMs in line with new issuance. This inverse relationship between yield and price is the fundamental mechanism of the bond market. Macro traders express interest rate views by positioning for changes in YTM across the curve.

Limitations of YTM

YTM has important limitations that investors should understand. The reinvestment assumption, that all coupons can be reinvested at the YTM rate, rarely holds in practice. If rates change after purchase, actual reinvestment rates will differ. This is why zero-coupon bonds, which have no reinvestment risk, are the purest YTM investment.

YTM also assumes the bond is held to maturity with no default. For callable bonds, yield-to-call or yield-to-worst may be more appropriate measures. For bonds with credit risk, the expected return should account for the probability of default and the expected recovery rate, making YTM an upper bound on realistic returns.