Yield Basis - Explained
What is a Yield Basis?
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Table of ContentsWhat is a Yield Basis?How Does a Yield Basis Work?
What is a Yield Basis?
The yield basis of a security or financial instrument is the yield percentage attributed to it rather than its dollar value. Fixed income security such as bond carry yield percentage instead of carrying their dollar value. With the yield basis, the diverging characteristics of bonds can be measured and compared.
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How Does a Yield Basis Work?
While stocks are quoted in their dollar value, bonds are quoted using the yield basis. The yield basis is realized by quoting the price of a security or bond as a yield percentage. The yield basis of a bond can be estimated by dividing the coupon of the bon by the purchase price. That is; The yield basis: Coupon / Purchase Price (this is the current yield formula). Through the yield quote, a bond trader can determine whether the bond is trading at a discount, or trading at a premium. A bond is trading at a discount when the yield basis is higher than the coupon rate and a bond is trading at a premium when the coupon rate is higher than the yield basis. The Formula for calculating the yield basis is; r = (Discount / Par Value) x (360/t) The above formula is a bank yield discount formula that is applicable when the discount of an instrument is being calculated. In the above formula, r = (Discount / Par Value) x (360/t); r represents the annualized yield discount means Par value minus Purchase price t means time left to maturity, and 360 = bank convention for the number of days in a year.