What is Yield?
Yield refers to the income generated by an investment in relation to its cost. It is usually expressed as a percentage. When it comes to bonds, yield represents the annual interest income earned from owning the bond. The yield on a bond can be influenced by various factors, including the bond's coupon rate, market price, and prevailing interest rates.
Understanding High Yield Bonds
High yield bonds are issued by companies with lower credit ratings, often below investment grade. These bonds are considered riskier than investment-grade bonds due to the higher likelihood of default. To compensate for the increased risk, high yield bonds offer higher yields or interest rates compared to investment-grade bonds. Investors are attracted to high yield bonds for their potential for higher returns, but they also come with a higher risk of default.
Calculating Current Yield
The current yield on a bond is calculated by dividing the annual interest payment by the bond's current market price. For high yield bonds, the current yield is generally higher compared to investment-grade bonds due to the higher interest rates. Investors can use the current yield as an indicator of the potential income they may earn from holding the bond. However, it's important to note that the current yield may not fully reflect the total return or risk associated with the bond.
Factors Affecting High Yield Bond Yields
Several factors can impact the yields of high yield bonds: 1. Credit Risk: High yield bonds have higher credit risk due to lower credit ratings, which can result in higher yields. 2. Interest Rates: Changes in interest rates can influence the yields of high yield bonds. When interest rates rise, bond yields tend to increase to attract investors. 3. Economic Conditions: The overall economic conditions can affect the risk perception and yields of high yield bonds. In times of economic uncertainty, yields may rise as investors demand higher returns for the increased risk. 4. Company-Specific Factors: The financial health and prospects of the issuing company can impact the yields of high yield bonds. If a company faces financial difficulties, its bond yields may rise as investors perceive higher default risk.