Yield to maturity, often referred to as YTM or yield, is the expected return on a bond if it is held until its maturity date. The expected return is calculated as an annual rate. Calculating YTM requires the price of the bond, face value, time until maturity and the coupon rate of interest. An approximation of a bond’s yield to maturity can be calculated using a yield table. The most accurate way, however, is to input the variables on a financial calculator using the time value of money row.
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Clear the time value of money row on your calculator. Press the second button, then the button with “clear TVM” written above it, which on most financial calculators is the "FV" button. The TVM row on the calculator consists of "N," "I/Y," "PV," "PMT," and "FV" buttons.
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Use the following numbers to follow along with the examples in the next five steps. Corporation A issues a five-year bond with semi-annual compounding for $900. Face value is $1,000, and coupon payments are $40.
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Enter into the calculator the number of periods until the bond matures. Press the "N" button to input. Use the number of periods, not years. Bonds with semi-annual compounding will have twice as many periods as years remaining.
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From the example above, N would be equal to 2 periods per year x 5 years = 10 periods.
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Enter the current market price of the bond into the calculator. Then press the "+/- "button to make it negative. Press the "PV" button to input the value. This represents the cash outflow required to purchase the bond. If this number is not made negative, "error" will show on the screen when the final computation is made.
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Continuing with the example, -900 would be entered as the value for present value.
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Enter the coupon payment, per period, into the calculator. These are positive values. Press the "PMT" button to input them into the calculator’s memory. Remember to calculate payments based on the coupon rate and face value of the bond. Divide the coupon rate if necessary to account for semi-annual payments.
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Coupon payments in the example are equal to $40. The example could also state that the coupon rate is 8 percent. This requires the recognition that payments are made semi-annually, so the percentage per payment must be divided by two.
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Enter the face value of the bond into the calculator. Press "FV" to input it into the computer’s memory. This is the payment returned to the bond purchaser at the maturity date. It is a positive value. The FV number and the PV number must have opposite signs for the calculation to work properly.
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Following the example, the FV entered would be $1,000. Most bonds that are issued have face values of $1,000; if problems do not state face value, a $1,000 face value should be assumed.
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Press the "CPT" button. Then press "I/Y." The yield to maturity will be displayed on the calculator screen. If the compounding was semi-annual, be sure to multiply the YTM by two so that the yearly rate is displayed.
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The correct answer to the example is YTM = 5.31 percent.
