In simple words, if an investment is held till its maturity date, the rate of return that it will generate will be Yield to Maturity. YTM is the estimated internal rate of return earned by an investor who buys the bond today at the market rate on the assumption that it will be held until its maturity date with all payments made as scheduled and reinvested at the same rate.

For example, for an investor who buys the bond today at the market rate and the bond is purchased at less than its maturity value; the yield to maturity includes the annual interest plus the gain as the bond increases from the investment amount to the maturity value. For instance, say an investor buys a bond at Rs.92/- that matures in 3 years, whose par value is Rs.100/- and pays an annual coupon of 7%. The yield to maturity includes the annual interest plus the gain as the bond increases from the investment amount to the maturity value (Rs.100-Rs.92= Rs.8/-) plus interest received is  Rs.7*3=21. So yield to maturity of that bond is Rs.29/-

In another example, an investor buys a bond at Rs.110/- that matures in 3 years, whose par value is Rs.100/- and pays an annual coupon of 10%. The yield to maturity includes the annual interest plus the loss as the bond decreases from the investment amount to the maturity value (Rs.110 -Rs.100=  (-Rs.10/-) plus interest received  is Rs.10*3=30. So yield to maturity of that bond is Rs.20/- (i.e. 30-10=20).

Hence YTM is also known as redemption yield which is considered a long-term bond yield but it is expressed as an annual rate.

Disclaimer: This blog has been written exclusively for educational purposes. The author shall not be responsible for any direct/indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information. Please consult your financial advisor before making any financial decision.

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