nominal-yield-current-yield-and-yield-to-maturity — yield duration and convexity

title: "Nominal Yield, Current Yield, and Yield to Maturity" description: "Learn when to use nominal yield, current yield, and YTM for bond comparisons. Master the math and avoid costly yield confusion in your portfolio." slug: "nominal-yield-current-yield-and-yield-to-maturity" category: "Fixed Income" subcategory: "Yield Duration and Convexity" difficulty: "intermediate" readingTime: "6 min" author: "Equicurious" lastUpdated: "2025-12-29"

Yield confusion costs real money. Retail investors choosing bonds based on the highest stated yield are more prone to future ratings downgrades and underperformance (Egan and Matvos, 2023). The difference between current yield and yield to maturity on a premium bond can exceed 100 basis points—enough to completely change which bond belongs in your portfolio. The practical antidote: know exactly what each yield measure tells you (and what it ignores).

Why Three Yield Measures Exist (And When Each One Matters)

Every bond has a stated coupon rate, but that's just the starting point. The price you pay determines your real return—and different yield calculations capture different aspects of that return.

Nominal yield (also called coupon rate) is simply the annual interest payment divided by face value. A bond with a $50 annual coupon and $1,000 face value has a 5.0% nominal yield. This number never changes regardless of what you pay for the bond. The point is: nominal yield tells you what the issuer promised, not what you'll earn.

Current yield adjusts for price. It divides the annual coupon by the current market price. Same $50 coupon on a bond trading at $950 gives you a 5.26% current yield. Buy at $1,050 and current yield drops to 4.76%. Why this matters: current yield shows your income return right now (useful for income-focused investors), but it ignores what happens at maturity.

Yield to maturity (YTM) is the total return measure. It accounts for coupon payments, time value of money, and capital gain or loss at maturity. YTM is the discount rate that makes all future cash flows equal to today's price. The point is: YTM is your true economic return if you hold to maturity and reinvest coupons at the same rate.

The Math Behind Each Yield (With a Real Example)

You buy a 10-year corporate bond with a 5% coupon (annual payments), $1,000 face value, at a market price of $920 (a discount bond).

Step 1: Nominal Yield

Nominal Yield = Annual Coupon / Face Value

$50 / $1,000 = 5.00%

This is fixed by the bond's terms. It won't change.

Step 2: Current Yield

Current Yield = Annual Coupon / Current Market Price

$50 / $920 = 5.43%

You're earning a higher income yield than the stated coupon because you bought at a discount. But this ignores a key fact: you'll receive $1,000 at maturity when you only paid $920—an $80 capital gain.

Step 3: Yield to Maturity

YTM requires solving for the discount rate that equates price to discounted cash flows:

$920 = $50/(1+y) + $50/(1+y)^2 + ... + $50/(1+y)^10 + $1,000/(1+y)^10

Solving iteratively (or using a financial calculator), YTM = 5.89%

The practical point: Current yield (5.43%) understates your total return by 46 basis points because it ignores the pull-to-par gain. For comparing bonds with different prices, always use YTM.

When to use this: Current yield for cash income planning. YTM for total return comparisons.

Premium vs. Discount Bonds: Why the Gap Matters

The relationship between current yield and YTM flips depending on whether you buy above or below par:

Discount bond → Current yield < YTM → Understates actual return

You bought at $920, receive $1,000 at maturity. The capital gain boosts your total return above the income yield.

Premium bond → Current yield > YTM → Overstates actual return

You buy a 5% coupon bond at $1,080. Current yield is 4.63% ($50/$1,080), but YTM is only 4.15% because you'll lose $80 when the bond matures at $1,000.

Par bond → Current yield = YTM

When price equals face value, there's no capital gain or loss to adjust for. All three yields converge.

The durable lesson: Premium bonds look more attractive on current yield than they actually are. Discount bonds look worse on current yield than their true return.

Detection Signals: You're Likely Confusing Yields If...

You select bonds primarily by sorting on "yield" without checking which yield measure the screener displays
You compare a premium callable bond's current yield to a discount bullet bond's YTM
You expect your 6% current yield bond to deliver 6% total return (ignoring that you paid 105% of par)
You're surprised by a capital loss at maturity on a bond that "had a good yield"

The Reinvestment Assumption Hidden in YTM

YTM assumes you reinvest every coupon payment at the same YTM rate. This is rarely exactly true (because rates change over the holding period), but it provides a standardized comparison metric.

Consider: if you buy a 5.89% YTM bond but can only reinvest coupons at 3%, your realized return will be lower than 5.89%. Why this matters: The longer the maturity and higher the coupon, the more reinvestment risk affects your actual return.

Real-World Application: Current Treasury Yields

As of December 2025, the 10-year Treasury yield stands at 3.67% (Federal Reserve Board, 2025). For Treasury securities trading at par, nominal yield, current yield, and YTM are essentially identical. But corporate bonds and older Treasury issues often trade at premiums or discounts—making the distinction critical.

The practical point: When evaluating bond funds, always confirm which yield metric is reported. Fund fact sheets typically show SEC yield or distribution yield (similar to current yield)—neither is the same as YTM.

Checklist: Which Yield Should You Use?

Essential (use these first)

YTM for total return comparisons across bonds with different prices/coupons
Current yield for income planning when you need to know annual cash flow
Nominal yield to understand the coupon structure but never for return estimates

High-impact refinements

Compare YTM to yield-to-call for callable bonds trading at premiums
Check yield-to-worst to find the most conservative return estimate
For inflation protection, compare TIPS real yield to nominal Treasury YTM

The Pull-to-Par Effect

Bond prices converge toward face value as maturity approaches (assuming no default). This "pull-to-par" means:

Discount bonds drift upward in price, narrowing the gap between current yield and YTM
Premium bonds drift downward, again narrowing that gap

The test: When comparing bonds of different maturities, the same YTM can mask different price paths. A 10-year discount bond has more pull-to-par appreciation ahead than a 2-year—both might show 5.5% YTM, but capital gain profiles differ.

Common Mistakes and How to Avoid Them

Mistake 1: Chasing the highest yield number

Retail investors sorting bonds by "yield" often grab premium callable bonds with high current yields, not realizing YTM (and more importantly, yield-to-worst) is much lower.

Mistake 2: Treating YTM as guaranteed return

YTM is a projection, not a promise. It assumes you hold to maturity, reinvest coupons at the YTM rate, and the issuer doesn't default or call early.

Mistake 3: Ignoring time value in quick comparisons

A 4% current yield bond maturing in 2 years is not comparable to a 4% current yield bond maturing in 20 years. Use YTM for apples-to-apples comparison.

Your Next Step

Pull up your bond holdings or watchlist. For each position, identify: (1) the coupon rate, (2) your purchase price vs. par, and (3) the YTM at purchase. If you bought at a premium, calculate how much of your "yield" is actually capital loss waiting to happen. This 10-minute exercise often reveals that true expected return differs from stated income yield by 50-100+ basis points.

Related: Yield to Call and Yield to Worst | Spot Curves vs. Par Curves | Glossary: Yield and Duration Metrics

Nominal Yield, Current Yield, and Yield to Maturity