Yield vs. Return: An Overview
Yield and return are two different ways of measuring the profitability of an investment over a set period of time, often annually. The yield is the income the investment returns over time, typically expressed as a percentage, while the return is the amount that was gained orlost on an investment over time, usually expressed as a dollar value.
Key Takeaways
- Yield and return both measure an investment's financial value over a set period of time, but do it using different metrics.
- Yield is the amount an investment earns during a time period, usually reflected as a percentage.
- Return is how much an investment earns or loses over time, reflected as the difference in the holding's dollar value.
- The yield is forward-looking and the return is backward-looking.
Yield
Yield is the income returned on an investment, such as the interest received from holding asecurity. The yield is usually expressed as an annual percentage rate based on the investment's cost,current market value,orface value. An investor can look at yield as gross yield, which does not deduct taxes and expenses, or as net yield, which deducts those expenditures.
Yield may be considered known or anticipated depending on the security in question, as certain securities may experience fluctuations in value.
Yieldisforward-looking. Furthermore, it measures the income, such as interest and dividends, that an investment earns and ignores capital gains. This income is taken in the context of a specificperiod and is then annualized with the assumption that the interest or dividends will continue to be received at the same rate.
A bond yield canhave multiple yield options depending on the exact nature of the investment. The couponis the bond interest rate fixed at issuance, and the coupon rate is the yield paid by fixed-incomesecurity.The coupon rate is the annual coupon payments paid by the issuer relative to the bond's face or par value.
The current yield is the bond interest rate as a percentage of the current price of the bond. Theyield to maturityis an estimate of what an investor will receive if the bond is held to its maturity date.
Return
Return is thefinancial gain or loss on an investment and is typicallyexpressed as the change in the dollar value of an investment over time.Returnis also referred to as total return and expresses what an investorearned from an investment during a certain period. Total return includes interest, dividends, and capital gain, such as an increase in the share price. In other words, a return is retrospective or backward-looking.
For example, if an investor bought a stock for $50 and sold it for $60, the return would be$10. If the company paid a dividend of $1 during the time the stock was held, thetotal return would be $11, including the capital gain and dividend. A positive return is a profiton an investment, and a negative return is a loss on an investment.
Risk and Yield
Risk is an important component of the yield paidonan investment. The higher the risk, the higher the associated yield potential.Some investments are less risky than others. For example, U.S. Treasuries carry less riskthan stocks. Sincestocks are considered to carry ahigher risk than bonds,stocks typically havea higher yield potential to compensate investors for theadded risk.
The rate of return is a metric that can be used to measure a variety of financial instruments, while yield refers to anarrower group of investments—namely, those that produce interest or dividends.
The Rate of Return vs. Yield
Rate of returnand yield bothdescribe the performance of investments over a set period (typically oneyear), but they have subtle and sometimes important differences. The rate of return is a specific way of expressing the total returnonan investment that shows the percentage increase over the initial investment cost. Yield shows how much income has been returned from an investment based on initial cost, but it does not includecapital gainsin its calculation.
Rate of return can be applied to nearly any investment while yield is somewhat more limited because not all investments produce interest ordividends. Mutual funds, stocks, and bonds are three common types of securities that have both rates of return and yields.
The formula for rate of return is:
OriginalPriceCurrentPrice−OriginalPrice×100
In our earlierexample,if a stock is bought for $50 and sold for $60, your return would be$10 for the investment. Adding thedividend of $1 during the time the stock was held, thetotal return is $11, including the capital gain and dividend. The rate of return is:
$50$60(CurrentPrice)+$1(D)−$50(OriginalPrice)=0.22∗100=22%RateofReturnwhere:D=Dividend
Consider amutual fund, for example. Its rate of return can be calculated by taking the total interest and dividends paid and combining them with the current share price, then dividing that figure by the initial investment cost. The yield would refer to the interest and dividend income earned on the fund but not the increase—or decrease—in the share price.
There are several different types of yield for each bond:coupon rate,current yield,andyield to maturity. Yield can also be less precise than the rate of return since it is often forward-looking, whereas the rate of return is backward-looking. Many types of annual yields arebased on future assumptions that current income will continue to be earned at the same rate.
