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Bond Equivalent Yield Formula
An investor needs to know the bond equivalent yield formula. It allows the investor to calculate the annual yield of a bond, sold at a discount.
Here’s the bond equivalent yield formula –
Here, d = days to maturity
Bond Equivalent Yield Formula Example
Let’s take a practical example to illustrate bond equivalent yield formula.
Mr Yamsi is confused about two bonds he is considering for investments. One bond is offering $100 per bond as a purchase price and another is offering $90 per bond. For both the fixed-income securities, they would offer $110 per bond after 6 months (for the first) and after 12 months (for the second). Which one Mr Yamsi should invest in?
This is a classic case of being confused between two fixed income securities.
However, we can easily find out the BEY to see which investment is more fruitful for Mr Yamsi.
For the first bond, here’s the calculation –
Bond Equivalent Yield Formula = (Face Value – Purchase Price) / Purchase Price * 365 / d
- Or, BEY = ($110 – $100) / $100 * 365 / 180
- Or, BEY = $10 / $100 * 2.03
- Or, BEY = 0.10 * 2.03 = 20.3%.
Now, let’s calculate the BEY for the second bond.
BEY = (Face Value – Purchase Price) / Purchase Price * 365 / d
- Or, BEY = ($110 – $90) / $90 * 365 / 365
- Or, BEY = $20 / $90 * 1 = 22.22%.
By calculating the BEY for both of these bonds, we can easily say that Mr Yamsi should invest into the second bond.
However, if time becomes a factor, then Mr Yamsi may choose the first bond, because is 6 months it is offering a staggering 20.3% return.
Explanation of Bond Equivalent Yield Formula
Let’s look closely at the formula for bond equivalent yield. If you look closely, you would see that there are two parts of this formula for bond equivalent yield.
- The first part talks about the face value, the purchase price. In short, the first part depicts the return on investment for the investor. For example, if an investor pays $90 as a purchase price for the bond. And at maturity within 12 months, he would receive $100; the return on investments would be = ($100 – $90) / $90 = $10 / $90 = 11.11%.
- The second part of this formula for bond equivalent yield is all about the time horizon. If the maturity for the bond is 6 months from now; then d would be 180 days. And the second part of formula would result into – 365 / 180 = 2.03.
Use of Formula for bond equivalent yield
As an investor, you have many options. When you have so many options, you would only choose the option which will provide you with the most return.
That’s why you need to use the bond equivalent yield formula to find out whether a particular investment is better or worse than the other investments.
However, for calculating the formula for bond equivalent yield, you need to remember that these investments don’t offer annual payments. And you can use this formula for fixed income securities. For example, if you find out about a bond and it is offering discount on the purchase price, first be sure to find out the formula for bond equivalent yield and then go ahead (if you want to).
Bond Equivalent Yield Calculator
You can use the following Bond Equivalent Yield Calculator
|Bond Equivalent Yield Formula =||
Bond Equivalent Yield or BEY in Excel (with excel template)
Let us now do the same example above in Excel. This is very simple. You need to calculate BEY for both of these bonds.
You can easily calculate the BEY in the template provided.
This has been a guide to Bond Equivalent Yield (BEY) Formula. Here we discuss how to calculate Bond Equivalent Yield (BEY) along with practical examples and excel templates. You may also learn more about fixed income with these articles below –