The yield is what you actually earn
A bond's coupon rate is fixed at issuance. The price moves around as market conditions change. So the actual return you'd earn from buying a bond at today's price and holding to maturity isn't the coupon rate — it's the yield to maturity (YTM).
YTM is the discount rate that makes the present value of the bond's future cash flows equal to its current price. In other words: the rate of return implied by today's price plus the future schedule of payments.
Why the coupon and the yield differ
Suppose a bond was issued years ago with a 4% coupon, ₩10,000 face value, 5 years to maturity. If interest rates have risen since then, new bonds being issued today carry higher coupons (say 6%). For the old 4% bond to be attractive to a new buyer, its price has to drop below face value. At a lower price, the same fixed coupons + face value at maturity translate to a higher effective return.
Math example. The old 4% bond pays ₩400/year for 5 years plus ₩10,000 at year 5. If you'd pay ₩9,200 today (instead of face value ₩10,000), your YTM is roughly 6% — matching what new bonds are paying.
The relationship is fundamental: price and yield move opposite. When market rates rise, existing bond prices fall (so their yields rise to match new bonds). When market rates fall, existing bond prices rise.
Three quick relationships to lock in
- If price = face value: YTM = coupon rate. (Buying at par, you earn exactly the coupon.)
- If price < face value (discount): YTM > coupon rate. (Bought cheap, you earn more.)
- If price > face value (premium): YTM < coupon rate. (Bought expensive, you earn less.)
News reports usually quote yields, not prices. "10-year Treasury yields fell to 4.2%" tells you about market direction. The price moved opposite — Treasuries got more expensive.
Different yield concepts to know about
- Coupon rate (or coupon yield): annual coupon / face value. Fixed at issuance.
- Current yield: annual coupon / current price. A rough income measure.
- Yield to maturity (YTM): the comprehensive figure. Includes coupon + capital gain or loss as the bond ages back to face value at maturity.
- Yield to call: for callable bonds, the yield assuming the issuer calls (redeems early) at the earliest call date.
For most decisions, YTM is the right concept. It's what people mean by "the bond's yield" without further qualification.
The takeaway
YTM = the actual return you earn buying at today's price and holding to maturity. Different from the fixed coupon rate. Price and yield move opposite — rates up = bond prices down. Coupon yield, current yield, YTM all measure different things; YTM is the comprehensive figure for buy-and-hold investors. Next lesson: how the price actually gets computed from cash flows.