Introduction to Fixed Income Securities and Yield to Maturity
Fixed-income securities, predominantly bonds, constitute the bedrock of global financial markets, serving as primary vehicles for sovereign governments, municipal authorities, and multinational corporations to secure capital for operations and infrastructure projects. A bond functions as an formalized loan agreement between the investor (the lender) and the issuer (the borrower). In exchange for funding, the issuer covenants to pay periodic interest payments—termed coupon payments—and return the principal amount (the par or face value) at a contractually predetermined maturity date.
While a bond's nominal rate of interest is fixed by its coupon rate, its value fluctuates dynamically in secondary markets. When interest rates rise, new bonds are issued with higher yields, rendering older bonds with lower rates less attractive and driving their prices down. Conversely, when rates fall, older bonds with higher coupon rates appreciate in value. Consequently, a bond's purchase price rarely equals its par value. Bonds trading below par are discount bonds, while those trading above par are premium bonds.
To compare bonds with different coupons, prices, and maturities, investors rely on Yield to Maturity (YTM). YTM represents the internal rate of return (IRR) an investor receives if they purchase the bond at its current market price and hold it until maturity, assuming all intermediate coupon payments are reinvested at that same rate. It is the gold standard metric for assessing fixed-income performance.