YTM vs. current yield — what's the actual difference and when does each matter?

Question

AcadiFi · Accepted Answer

Great question — these two yield measures serve different purposes and confusing them is a common exam trap.

**Current Yield** is the simplest measure:

Current Yield = Annual Coupon / Current Market Price

It only captures the income component — it ignores any capital gain or loss from the bond converging to par at maturity.

**Yield to Maturity (YTM)** is the total return measure. It's the discount rate that equates the bond's price to the present value of all future cash flows (coupons + principal). YTM captures:
1. Coupon income
2. Capital gain/loss (if bought at premium or discount)
3. Reinvestment income (assumed at the YTM rate)

**Example:**
A bond with a 7% coupon trades at $950 with 5 years to maturity (face = $1,000).

- Current yield = $70 / $950 = **7.37%**
- YTM calculation requires solving: $950 = $70/(1+r)^1 + $70/(1+r)^2 + ... + $1,070/(1+r)^5
- Using a financial calculator: YTM = **8.26%**

Notice YTM > Current Yield > Coupon Rate for a discount bond. This relationship always holds:

```mermaid
flowchart TD
    A{Bond Type?}
    A -->|Discount| B[YTM > Current Yield > Coupon Rate]
    A -->|Premium| C[Coupon Rate > Current Yield > YTM]
    A -->|Par| D[YTM = Current Yield = Coupon Rate]
```

**When to use each:**
- **Current yield**: Quick income comparison between bonds. Useful for income-focused investors who care about cash flow, not total return.
- **YTM**: The standard comparison metric. Use it whenever you need a single number representing total expected return assuming you hold to maturity and reinvest coupons at the YTM.

**Exam tip:** The CFA exam often gives you a discount bond and asks which yield measure is highest — the answer is always YTM for discount bonds. Know the ranking by heart.

Practice more yield comparison problems in our CFA Level I question bank.

YTM vs. current yield — what's the actual difference and when does each matter?

Master Level I with our CFA Course

Related Questions

Practice Questions