‘Current Yield’ and ‘Coupon Rate’ are two different terms, but these terms are related to bonds and shares. Many people turn towards other methods like mutual funds, stock market, share market, etc., to invest their money for better returns.
So these two terms are essential to understand how the market works.
Key Takeaways
- Current yield refers to the rate of return on a bond investment, calculated by dividing the annual interest payment by the bond’s current market price.
- The coupon rate is the interest rate stated on the face of the bond at the time of issuance.
- The current yield reflects the current market value of a bond, while the coupon rate is fixed at the time of issuance.
Current Yield vs Coupon Rate
Current yield refers to the annual interest payment made by a bond or other fixed-income investment relative to its current market price, expressed as a percentage. The coupon rate is the annual interest rate stated on the bond when it’s issued, as a percentage of the bond’s face value.
The Current Yield is a mathematical instrument that can tell about the expected income from any investment. Generally, it is used for bonds.
It can be calculated by dividing the annual income from the bond by the current price of the bond. It is an excellent method to check expectations from a bond.
A Coupon Rate is a fixed interest that a bondholder gets annually until it completely matures, whatever the current status of the bond value. Generally, the annual amount due to the coupon rate is paid twice a year.
It does not depend on the bond’s face value or par value.
Comparison Table
| Parameters of Comparison | Current Yield | Coupon Rate |
|---|---|---|
| Definition | It is the expected annual income from a bond. | It is a fixed amount of interest an issuer gets annually. |
| Nature | It keeps changing for a particular bond with time intervals. | It is a fixed interest and does not change for a particular bond. |
| Formula | Annual cash payment ÷ Market price | (Total annual coupon payment ÷ Face value of bond) × 100% |
| Risk Effect | It can be affected by risk. | It does not get affected by any risk. |
| Relevance | It is just a tool to check expectations. | It is an actual percentage that the stockholder gets. |
What is the Current Yield?
The Current Yield is a method of bond yield measurement, which measures annual income from stock. It tells the investor the expected return from the bond if he invests in the bond for one year.
Bond prices keep regularly changing, so the current yield is not an actual amount. Instead, it is an expected return only.
The Current Yield depends on the current market price, so it keeps changing. For example, XYZ issued a bond with a face value of $2000, and its annual coupon payment is $150.
The current market price of bonds is $1800, so the current yield can be calculated, resulting in the current yield equal to 8.33%.
In rare cases, the Current Yield can be equal to the coupon rate when a bond market price equals its face value.
It is higher when the bond market price gets lower than its face value and lower when the bond market price is higher than its face value.
Many other methods, like current yield, calculate bond yield like Yield to Maturity. The investor should consider all scenarios and check the return as the current yield does not consider the time effect on bond return.
These points can help to choose a perfect bond for a higher return.
What is Coupon Rate?
The coupon Rate is the actual amount a holder gets for any bond. It is paid annually till it gets mature.
It is a rate of interest. The government fixes this rate of interest.
It remains fixed whether the market value of the bond fall or rises, so it is an assured amount for a stockholder, whatever the condition is.
It is a fixed return on the bond. For example, if a company issues a bond with a face value of $100 and the coupon rate is 10%, it pays $10 annually to the bondholder. In general, it is paid two times semi-annually.
In most cases, investors prefer bonds with a high coupon rate. Sometimes coupon rates can also be zero, and insurance companies prefer it as the insurance companies’ interest rate risk is minimized with the help of zero-coupon bonds.
It is known as Coupon Rate. It s because, initially, investors used to get a sheet of paper coupons while purchasing a bond, which could be redeemed at regular intervals in exchange for real money.
Now in the age of digitalization, payments are made electronically.
Main Differences Between Current Yield and Coupon Rate
- The main difference between the current yield and coupon rate is that the current yield is just an expected return from a bond, and the coupon rate is the actual amount paid regularly for a bond until it matures.
- The Current Yield keeps changing as the market value of the bond changes, but the Coupon Rate of a particular bond remains the same.
- The Current Yield can be calculated by taking the annual cash payment ratio and the bond market price. On the other hand, the Coupon Rate is calculated by taking the percentage ratio of coupon payment to the face value of the bond.
- The Current Yield can be affected by the risk of the market, whereas the Coupon Rate does not affect by any condition of the market.
- The Current Yield is a value that depends on the market price of a bond, while the government fixes the Coupon Rate before issuing a bond.
- https://www.jstor.org/stable/41862457
- https://search.proquest.com/openview/ff642164edae9a9f49d0f1d0af16452f/1?pq-origsite=gscholar&cbl=1816399
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