yield measure question!!!

Q: an anylyst observes a bond with an annual coupon that’s being priced to yield 6.350%. what is this bond equivalent yield? I am confused because since the yield is given as annual rate so isnt the bond equivalent yield same as the 6.350%? can someone explain for me please!!! thanks,

that is easy, this yield rate is annualized, we need the BEY, This need to take sqrt, and *2, we can get around 6.25%

yield 6.350% is annual payment YTM. BEY is semiannual payment YTM. calculation is [(1.0635)^0.5-1]*2=6.25%

yeah i know that, but how do you know that you need to get semi-annual yield? the question says that the coupon is paid annually and why we need to figure out the semi-annual one? cheers,

Well… the assumption for BEY is that the compounding is done semi-anually. So the question asked you to find the effective semi-annual yield that produce the same retun when it is annualized.

in US, most of bonds pay coupon semiannually. so they make semi-annual yield as standardized model , even this yield is not so accurate as EAY to tell the yield.

gingerduck Wrote: ------------------------------------------------------- > Q: an anylyst observes a bond with an annual > coupon that’s being priced to yield 6.350%. what > is this bond equivalent yield? > > I am confused because since the yield is given as > annual rate so isnt the bond equivalent yield same > as the 6.350%? > > can someone explain for me please!!! > > thanks, Both the semi-annual pay yield (BEY) and annual-pay yield are annualised (i.e. gives the return after one year). The semi-annual pay yield will always be lower than the annual-pay yield because you are compounding the interest twice rather than once. If you remember from quantitative methods, the yield increases as frequency of compounding increases. If the semi-annual pay yield were the same as the annual-pay yield, then the semi-annual pay yield would give you a higher return after one year, which does not make sense! For example, if you gave me \$100 and I pay you 6.35% interest per year, paid at once at the end of the year (i.e. annual-pay yield), then the effective annualised yield will be 6.35% After one year you will have \$106.35 in your account. However, if you gave me \$100 and I pay you 6.35% interest per year, paid semiannually, you will get MORE THAN \$106.35. In fact you will get 100*(1+(0.0635)/2)^2 = \$106.4508 Therefore, you need to calculate the BEY (semi-annual pay yield) which will give you \$106.35 when compounded semi-annually. The BEY will be 6.2038% After one year you will have also have \$106.35 in your account because 100*(1+(0.062038)/2)^2 = \$106.35