How to Calculate an APY of a Bond
Analyze the terms of a bond., Understand how interest compounds by calculating what you would make the first and second years of your investment., Use a formula to calculate the Annual Percentage Yield.
Step-by-Step Guide
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Step 1: Analyze the terms of a bond.
The amount you invest is called the "face value" of the bond, while the interest rate is called the "coupon rate." The maturity date is the date you receive repayment of the amount you invested plus the interest owed to you.
Figuring out the APY is helpful when comparing investments.
Bonds can be issued for terms ranging from a few months to as much as 30 years.
For the sake of comparison, APY is calculated on an annual basis.
The APY is especially significant if the bond's maturity date is more than a year from the date of purchase.
For this article, we will look at two bonds, each with a face value of $100, a coupon rate of 4 percent and lengths of two and five years, respectively.
Although we will use dollars, the calculations are valid in any currency. -
Step 2: Understand how interest compounds by calculating what you would make the first and second years of your investment.
Convert your percent to decimals.
Although you can often use percentages with calculators, decimal expressions are necessary when you use formulas.
Calculate what you will make the first year.
Take the face value of the bond and multiply it by the coupon rate.
For example, if you have a face value of $100 and an interest rate of 4 percent, you multiply 100 by
0.04 to calculate your first year's interest.
This equals $4.
So after the first year you will have $104.
In the second year you will multiply the 4% interest rate by the new value of $104. 104 multiplied by
0.04 equals $4.16 interest earned in the second year.
Thus, at the end of the second year, you would have a total of $108.16.
You have earned $8.16 through two years.
To figure the annual percentage rate through two years, you divide the interest earned by the face value, and divide that number by
2. (Interest earned/face value)/2 = APY. $8.16 divided by 100 is
0.0816.
When you divide that number by 2, you have
0.0408 or
4.08 percent APY for a two-year bond.
This compares to the 4% coupon rate. , Instead of going through this process year after year, there is a formula you can use.
Let's consider a five-year bond.
Take your interest rate and add it to the number
1.
In our example, this would give you
1.04.
Multiply this number by the number of years that you will invest the money.
In our case it would be
5.
1.04 multiplied by 5 is
5.2.
Subtract the number 1 from your total.
Your Annual Percentage Yield is
4.2 percent.
The formula is written as APY = (1 + interest rate) x Years
- 1 -
Step 3: Use a formula to calculate the Annual Percentage Yield.
Detailed Guide
The amount you invest is called the "face value" of the bond, while the interest rate is called the "coupon rate." The maturity date is the date you receive repayment of the amount you invested plus the interest owed to you.
Figuring out the APY is helpful when comparing investments.
Bonds can be issued for terms ranging from a few months to as much as 30 years.
For the sake of comparison, APY is calculated on an annual basis.
The APY is especially significant if the bond's maturity date is more than a year from the date of purchase.
For this article, we will look at two bonds, each with a face value of $100, a coupon rate of 4 percent and lengths of two and five years, respectively.
Although we will use dollars, the calculations are valid in any currency.
Convert your percent to decimals.
Although you can often use percentages with calculators, decimal expressions are necessary when you use formulas.
Calculate what you will make the first year.
Take the face value of the bond and multiply it by the coupon rate.
For example, if you have a face value of $100 and an interest rate of 4 percent, you multiply 100 by
0.04 to calculate your first year's interest.
This equals $4.
So after the first year you will have $104.
In the second year you will multiply the 4% interest rate by the new value of $104. 104 multiplied by
0.04 equals $4.16 interest earned in the second year.
Thus, at the end of the second year, you would have a total of $108.16.
You have earned $8.16 through two years.
To figure the annual percentage rate through two years, you divide the interest earned by the face value, and divide that number by
2. (Interest earned/face value)/2 = APY. $8.16 divided by 100 is
0.0816.
When you divide that number by 2, you have
0.0408 or
4.08 percent APY for a two-year bond.
This compares to the 4% coupon rate. , Instead of going through this process year after year, there is a formula you can use.
Let's consider a five-year bond.
Take your interest rate and add it to the number
1.
In our example, this would give you
1.04.
Multiply this number by the number of years that you will invest the money.
In our case it would be
5.
1.04 multiplied by 5 is
5.2.
Subtract the number 1 from your total.
Your Annual Percentage Yield is
4.2 percent.
The formula is written as APY = (1 + interest rate) x Years
- 1
About the Author
Carolyn Reyes
Brings years of experience writing about pet care and related subjects.
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