VALUER WORLD

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# MEANING OF YIELD AND ITS TYPES

Yield refers to the earnings generated and realized on an investment over a particular period of time, and is expressed in terms of percentage based on the invested amount. Yield includes the interest earned or dividends received from holding a particular security. Depending on the valuation (fixed vs. fluctuating) of the security, yields may be classified as known or anticipated. Higher yields are perceived to be an indicator of lower risk and higher income, but a high yield may not always be a positive, such as the case of a rising dividend yield due to a falling stock price.

Formula for Yield

Yield is a measure of cash flow that an investor gets on the amount invested in a security. It is mostly computed on an annual basis, though other variations like quarterly and monthly yields are also used. Yield should not be confused with total return, which is a more comprehensive measure of return on investment. Yield is calculated as:

Yield = Net Realized Return / Principal Amount

Types of Yields

Yield on Stocks

For stock-based investments, two types of yields are popularly used. When calculated based on the purchase price, the yield is called yield on cost (YOC), or cost yield, and is calculated as:

Cost Yield = (Price Increase + Dividends Paid) / Purchase Price

Yield on Bonds

The yield on bonds that pay annual interest can be calculated in a straightforward manner called the nominal yield, which is calculated as:

Nominal Yield = (Annual Interest Earned / Face Value of Bond)

Yield to Maturity

Yield to maturity (YTM) is a special measure of the total return expected on a bond each year if the bond is held until maturity. It differs from nominal yield, which is usually calculated on a per-year basis and is subject to change with each passing year. On the other hand, YTM is the average yield expected per year and the value is expected to remain constant throughout the holding period until the maturity of the bond.

Example of Yield

As one measure for assessing risk, consider an investor who wants to calculate the yield to worst on a bond. Essentially, this measures the lowest possible yield. First, the investor would find that the bond’s earliest callable date, the date that the issuer must repay principal and stop interest payments. After determining this date, the investor would calculate the yield to worst for the bond. Consequently, since the yield to worst is the return for a shorter time period, it expresses a lower return than the yield to maturity.

DERIVATION OF YIELD RATES

1-1/2% more return than the average yield rate on long term security as fair return on land investment

2-1/2% return more than the average yield on long term security as fair return on investment in buildings

1% extra yield on both types of investment to account for extra risk of investing capital, in leasehold properties

In year 1983, in Smt. Shantidevi’s case 3 , Supreme Court held for the first time that other forms of investment available in the market should also be considered for comparison. Similar view was expressed by the Supreme Court in case of SLAO Devangere4. In this case it was stated – “It would be unrealistic to adhere to traditional view of capitalised value being linked with G.E. Security, when investment on F.D. in Bank, National Saving Certificates and Blue Chip equities/Shares command much greater returns”.

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