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What is yield investing?

Investing is all about getting a return on your money, and the best way to know how you’re doing on that front is to calculate the yields of your investments. That is, find out how much income each of your investments promises to earn relative to its value in the market and how much you invested in the first place.

Seeing how much your investments will yield you means equipping yourself with valuable knowledge that can influence further investment decisions. But first, arm yourself with a thorough understanding of yields and how to calculate them. Read on to find out more.

What is yield investing?

Investing is all about getting a return on your money, and the best way to know how you're doing on that front is to calculate the yields of your investments. That is, find out how much income each of your investments promises to earn relative to its value in the market and how much you invested in the first place.

Seeing how much your investments will yield you means equipping yourself with valuable knowledge that can influence further investment decisions. But first, arm yourself with a thorough understanding of yields and how to calculate them. Read on to find out more.

Yield is the term for earnings generated and realized on an investment over a specific period of time, expressed in a percentage. The percentage is based on the amount invested, the current market value, or the face value of the investment security. 

Yield includes interest earned or dividends received from holding particular security over the specific period. But it ignores capital gains. Nature and valuation - whether the valuation is fixed or fluctuates - results in yields being classified as known, or anticipated. 

Thus, the yield is a major decision-making tool used both by companies and investors. It is a ratio that defines how much a company pays in dividends or interest to investors each year, relative to the purchase price of the security. In other words, it is a measure of the cash flow an investor is getting on the money invested.

Gains on stock prices, accruing profits to the business, also accrue profits to shareholders. This is also why stocks with less growth potential often offer higher dividend yields to investors than stocks with high growth potential. 

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

For example, the gains and return on stock investments can come in two forms. First, it can be in terms of price rise, where an investor purchases a stock at $100 per share, and after a year, they sell it for $120. Second, the stock may pay a dividend, say of $2 per share, during the year. The yield would be the appreciation in the share price plus any dividends paid, divided by the original price of the stock. The yield for the example would be:

($20 + $2) / $100 = 0.22, or 22%

What Can Yield Tell You?

Since a higher yield value indicates that an investor is able to recover higher amounts of cash flows in his investments, a higher value is often perceived as an indicator of lower risk and higher income. However, care should be taken to understand the calculations involved. A high yield may have resulted from a falling market value of the security, which decreases the denominator value used in the formula and increases the calculated yield value even when the security's valuations are on a decline.

While many investors prefer dividend payments from stocks, it is also important to keep an eye on yields. If yields become too high, it may indicate that either the stock price is going down or the company is paying high dividends. Since dividends are paid from the company's earnings, higher dividend payouts could mean the company's earnings are on the rise, which could lead to higher stock prices. Higher dividends with higher stock prices should lead to a consistent or marginal rise in yield. However, a significant increase in yield without a rise in the stock price may mean that the company is paying dividends without increasing earnings, and that may indicate near-term cash flow problems.

Understanding High Yield Investments

Investing in a high yield product or service requires extensive research. You may be walking into a risky business. This is why being prepared is the first step toward making quality, long-term outcome investments. You should also evaluate potential investments with scepticism. That way, you can get an idea of the possible outcomes taking the risk could produce. While the possible income from high yield investing may be great, be aware that your initial principles may fluctuate.

So where does one actually begin their search for high-quality, high yielding investments?

Preferred Stocks

Preferred stocks are mostly known for paying a fixed rate dividend at very regular intervals. In technicalities, preferred stocks are equity investments. However, many refer to them as being part bond and stock. This is because of their interest rate sensitivity: their interest values rise when the rates fall, and vice versa.

REITs

A real estate investment trusts allow you to invest in mortgages, property, office space, storage and more. REITs then offer you a share as a result of exchanging government tax breaks. They model mutual funds and produce regular income.

High Yield Bonds

These type of bonds have the potential of producing drastically high return rates. High yield bonds have a reputation of being junk bonds, but when investors go for mutual fund high yield bonds, they have a better chance at lowering the risk and increasing profit.

Venture Capitals

The financing of startups with long-term potential is what venture capitals are. The risk comes in with the fact that venture capitalists have a day in every decision that the startup makes. They can, in the end, make it or break it for a startup.

Master Limited Partnerships

MLPs are limited partnerships that progress their income through the investor. The company you are investing in then avoids paying income taxes. Therefore, requiring you, the investor, to pay company level taxes on any profit. This where the yield comes in, risking you to pay income taxes despite the revenue amount.

Crowdfunding Real Estate

DiversyFund offers high yield crowdfunding real estate investment opportunities for as low as $5,000. The profit potential from crowdfunding real estate investments can be anywhere from 12-18%. This is higher than standard real estate investment revenue. Plus, you don't have to be the one to purchase and flip the home. Instead, the crowdfunding real estate platform does all of the work while you simply generate income.

Of course, none of these high yield investments guarantees to double your income instantly. Instead, they are a reference on where you should begin your research. High yielding investments bring great risk to any investor. However, they have the potential of driving massive income into your pockets if planned out well and correctly.

How Is Yield Calculated?

Yield measures the cash flow an investor receives on the amount invested. It is usually computed on an annualized basis, though quarterly and monthly yields can be reported as well. 

Generally, the yield is calculated by dividing the dividends or interest received on a set period of time by either the amount originally invested or by its current price:

For a bond investor, the calculation is similar. As an example, if you invest $900 in a $1,000 bond that pays a 5% coupon rate, your interest income would be ($1,000 x 5%), or $50. The current yield would be ($50)/($900), or 5.56%.

If, however, you buy the same $1,000 bond at a premium of $1,100, the current yield will be ($50)/($1,100), or 4.54%. Because you paid a premium for a bond with the same fixed dollar amount of interest, the current yield is lower. 

However, high yield in either stocks or bonds can be the result of a falling market value of the security, decreasing the denominator value, even when the security's valuations are declining.

Yields vary with different types of investments in securities, the duration of the investment, and the return on it. For stock investments, two kinds of yields are generally watched - the yield on cost, and current yield.

The yield on cost can be calculated by dividing the annual dividend paid and dividing it by the purchase price. The difference between the yield on cost and the current yield is that, rather than dividing the dividend by the purchase price, the dividend is divided by the stock's current price.

Types of Yields

Yields can vary based on the invested security, the duration of investment and the return amount.

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

In the above-cited example, the investor realized a profit of $20 ($120 - $100) resulting from price rise, and also gained $2 from a dividend paid by the company. Therefore, the cost yield comes to ($20 + $2) / $100 = 0.22, or 22%.

However, many investors may like to calculate the yield based on the current market price instead of the purchase price. This yield is referred to as the current yield and is calculated as:

Current Yield = (Price Increase + Dividend Paid) / Current Price

In the above example, the current yield comes to ($20 + $2) / $120 = 0.1833, or 18.33%.

When a company's stock price increases, the current yield goes down because of the inverse relationship between yield and stock 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)

For example, if there is a Treasury bond with a face value of $1,000 that matures in one year and pays 5% annual interest, its yield is calculated as $50 / $1,000 = 0.05 or 5%

However, the yield of a floating interest rate bond, which pays a variable interest over its tenure, will change over the life of the bond depending upon the applicable interest rate at different terms.

If there is a bond that pays interest based on the 10-year Treasury yield + 2%, then its applicable interest will be 3% when the 10-year Treasury yield is 1% and will change to 4% if the 10-year Treasury yield increases to 2% after a few months.

Similarly, the interest earned on an index-linked bond, which has its interest payments adjusted for an index, like such as the Consumer Price Index (CPI) inflation index, will change as the fluctuations in the value of the index.

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.

The yield to worst (YTW) is a measure of the lowest potential yield that can be received on a bond without the possibility of the issuer defaulting. YTW indicates the worst-case scenario on the bond by calculating the return that would be received if the issuer uses provisions including prepayments, call back, or sinking funds. This yield forms an important risk measure and ensures that certain income requirements will still be met even in the worst scenarios.

The yield to call (YTC) is a measure linked to a callable bond—a special category of bonds that can be redeemed by the issuer prior to its maturity—and YTC refers to the bond's yield at the time of its call date. The bond's interest payments determine this value, its market price and the duration until the call date as that period defines the interest amount.

Municipal bonds, which are bonds issued by a state, municipality or county to finance its capital expenditures and are mostly non-taxable, also have a tax-equivalent yield (TEY). TEY is the pretax yield that a taxable bond needs to have for its yield to be the same as that of a tax-free municipal bond, and the investor's tax bracket determines it.

While there are a lot of variations for calculating the different kinds of yields, a lot of liberty is enjoyed by the companies, issuers and fund managers to calculate, report and advertise the yield value as per their conventions. Regulators like Securities and Exchange Commission (SEC) have introduced a standard measure for yield calculation, called the SEC yield, which is the standard yield calculation developed by SEC and is aimed at offering a standard measure for fairer comparisons of bond funds. SEC yields are calculated after taking into consideration the required fees associated with the fund.

Mutual fund yield is used to represent the net income return of a mutual fund and is calculated by dividing the annual income distribution payment by the value of a mutual fund's shares. It includes the income received through dividend and interest that was earned by the fund's portfolio during the given year. Since mutual fund valuation changes every day based on their calculated net asset value, the mutual fund yields are also calculated and vary with the fund's market value each day.

Along with investments, yield can also be calculated on any business venture. The calculation retains the form of how much return is generated on the invested capital.

tax strategies on paper

Bonds give you steady income

With a bond, you know what interest you're going to get because it's agreed with upfront. A typical bond will agree to pay a set amount of money, known as the coupon, on a regular basis – usually every six months – and for a predefined period.

During that period, the price of the bond will change from day to day, although normally not as much as is the case with shares. The coupon doesn't change so that the bond will pay out its agreed amount of money every six months. But, because the price is changing, the yield will change.

When prices rise, yields fall

And, because the price is the bottom of the fraction (the denominator) when you calculate yield if the price goes up, the yield goes down.

Think of it like this: the yield is an indication of how attractive investment is to a potential buyer. So if the bond is still paying out the same amount of money, but the price goes up, the yield moves lower because the bond becomes less attractive.

Two main differences with shares

When we consider shares, the calculations are the same, but there are two main differences. First, share prices move around a lot more than bond prices.

The second difference is that the income paid by shares – which comes in the form of dividends paid by companies – isn't guaranteed. It can move up or down or stop altogether. A well-managed company making healthy profits may well be able to pay rising dividends over time, but there is no guarantee.

So there's a lot more uncertainty around yield when it comes to shares than with bonds. The yield, often called dividend yield, will be more volatile because both the price of the shares and the income they provide are more volatile than with bonds.

Looking beyond the yield

These differences mean that yield is most useful when comparing similar investments, for example, one UK government bond against another or one car company share against another.

Even here, though, the yield is only part of the equation. Bond investors will also assess factors such as the bonds' maturity, which is the time left until the issuer repays the face value of the bond. Equity investors will consider things like the long-term profitability of the company concerned, which will be a key driver of moves in the share price.

Nevertheless, for similar investments that produce an income, yield can be a good starting point when thinking about which ones are most attractive.

Yield is the term for earnings generated and realized on an investment over a specific period of time, expressed in a percentage. The percentage is based on the amount invested, the current market value, or the face value of the investment security. 

Yield includes interest earned or dividends received from holding particular security over the specific period. But it ignores capital gains. Nature and valuation - whether the valuation is fixed or fluctuates - results in yields being classified as known, or anticipated. 

Thus, the yield is a major decision-making tool used both by companies and investors. It is a ratio that defines how much a company pays in dividends or interest to investors each year, relative to the purchase price of the security. In other words, it is a measure of the cash flow an investor is getting on the money invested.

Gains on stock prices, accruing profits to the business, also accrue profits to shareholders. This is also why stocks with less growth potential often offer higher dividend yields to investors than stocks with high growth potential. 

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

For example, the gains and return on stock investments can come in two forms. First, it can be in terms of price rise, where an investor purchases a stock at $100 per share and after a year they sell it for $120. Second, the stock may pay a dividend, say of $2 per share, during the year. The yield would be the appreciation in the share price plus any dividends paid, divided by the original price of the stock. The yield for the example would be:

($20 + $2) / $100 = 0.22, or 22%

What Yield Can Tell You?

Since a higher yield value indicates that an investor is able to recover higher amounts of cash flows in his investments, a higher value is often perceived as an indicator of lower risk and higher income. However, care should be taken to understand the calculations involved. A high yield may have resulted from a falling market value of the security, which decreases the denominator value used in the formula and increases the calculated yield value even when the security’s valuations are on a decline.

While many investors prefer dividend payments from stocks, it is also important to keep an eye on yields. If yields become too high, it may indicate that either the stock price is going down or the company is paying high dividends. Since dividends are paid from the company’s earnings, higher dividend payouts could mean the company's earnings are on the rise, which could lead to higher stock prices. Higher dividends with higher stock prices should lead to a consistent or marginal rise in yield. However, a significant rise in yield without a rise in the stock price may mean that the company is paying dividends without increasing earnings, and that may indicate near-term cash flow problems.

meeting on finances

Understanding High Yield Investments

Investing in a high yield product or service requires extensive research. You may be walking into a risky business. This is why being prepared is the first step toward making quality, long-term outcome investments. You should also evaluate potential investments with scepticism. That way you can get an idea of the possible outcomes taking the risk could produce. While the possible income from high yield investing may be great, be aware that your initial principles may fluctuate.

So where does one actually begin their search for high-quality, high yielding investments?

Preferred Stocks

Preferred stocks are mostly known for paying a fixed rate dividend at very regular intervals. In technicalities, preferred stocks are equity investments. However, many refer to them as being part bond and stock. This is because of their interest rate sensitivity: their interest values rise when the rates fall, and vice versa.

REITs

A real estate investment trusts allow you to invest in mortgages, property, office space, storage and more. REITs then offer you a share as a result of exchanging government tax breaks. They model mutual funds and produce regular income.

High Yield Bonds

These type of bonds have the potential of producing drastically high return rates. High yield bonds have a reputation of being junk bonds, but when investors go for mutual fund high yield bonds they have a better chance at lowering the risk and increasing profit.

Venture Capitals

The financing of startups with long-term potential is what venture capitals are. The risk comes in with the fact that venture capitalists have a day in every decision that the startup makes. They can, in the end, make it or break it for a startup.

Master Limited Partnerships

MLPs are limited partnerships that progress their income through the investor. The company you are investing in then avoids paying income taxes. Therefore, requiring you, the investor, to pay company level taxes on any profit. This where the yield comes in, risking you to pay income taxes despite the revenue amount.

Crowdfunding Real Estate

DiversyFund offers high yield crowdfunding real estate investment opportunities for as low as $5,000. The profit potential from crowdfunding real estate investments can be anywhere from 12-18%. This is higher than standard real estate investment revenue. Plus, you don’t have to be the one to purchase and flip the home. Instead, the crowdfunding real estate platform does all of the work while you simply generate income.

Of course, none of these high yield investments guarantees to double your income instantly. Instead, they are a reference on where you should begin your research. High yielding investments bring great risk to any investor. However, they have the potential of driving massive income into your pockets if planned out well and correctly.

How Is Yield Calculated?

Yield measures the cash flow an investor receives on the amount invested. It is usually computed on an annualized basis, though quarterly and monthly yields can be reported as well. 

Generally, the yield is calculated by dividing the dividends or interest received on a set period of time by either the amount originally invested or by its current price:

For a bond investor, the calculation is similar. As an example, if you invest $900 in a $1,000 bond that pays a 5% coupon rate, your interest income would be ($1,000 x 5%), or $50. The current yield would be ($50)/($900), or 5.56%.

If, however, you buy the same $1,000 bond at a premium of $1,100, the current yield will be ($50)/($1,100), or 4.54%. Because you paid a premium for a bond with the same fixed dollar amount of interest, the current yield is lower. 

However, high yield in either stocks or bonds can be the result of a falling market value of the security, decreasing the denominator value, even when the security's valuations are declining.

Yields vary with different types of investments in securities, the duration of the investment, and the return on it. For stock investments, two kinds of yields are generally watched - the yield on cost, and current yield.

The yield on cost can be calculated by dividing the annual dividend paid and dividing it by the purchase price. The difference between the yield on cost and the current yield is that, rather than dividing the dividend by the purchase price, the dividend is divided by the stock's current price.

Types of Yields

Yields can vary based on the invested security, the duration of investment and the return amount.

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

In the above-cited example, the investor realized a profit of $20 ($120 - $100) resulting from price rise, and also gained $2 from a dividend paid by the company. Therefore, the cost yield comes to ($20 + $2) / $100 = 0.22, or 22%.

However, many investors may like to calculate the yield based on the current market price, instead of the purchase price. This yield is referred to as the current yield and is calculated as:

Current Yield = (Price Increase + Dividend Paid) / Current Price

In the above example, the current yield comes to ($20 + $2) / $120 = 0.1833, or 18.33%.

When a company's stock price increases, the current yield goes down because of the inverse relationship between yield and stock 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)

For example, if there is a Treasury bond with a face value of $1,000 that matures in one year and pays 5% annual interest, its yield is calculated as $50 / $1,000 = 0.05 or 5%

However, the yield of a floating interest rate bond, which pays a variable interest over its tenure, will change over the life of the bond depending upon the applicable interest rate at different terms.

If there is a bond that pays interest based on the 10-year Treasury yield + 2% then its applicable interest will be 3% when the 10-year Treasury yield is 1% and will change to 4% if the 10-year Treasury yield increases to 2% after a few months.

Similarly, the interest earned on an index-linked bond, which has its interest payments adjusted for an index, like such as the Consumer Price Index (CPI) inflation index, will change as the fluctuations in the value of the index.

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.

The yield to worst (YTW) is a measure of the lowest potential yield that can be received on a bond without the possibility of the issuer defaulting. YTW indicates the worst-case scenario on the bond by calculating the return that would be received if the issuer uses provisions including prepayments, call back, or sinking funds. This yield forms an important risk measure and ensures that certain income requirements will still be met even in the worst scenarios.

The yield to call (YTC) is a measure linked to a callable bond—a special category of bonds that can be redeemed by the issuer prior to its maturity—and YTC refers to the bond’s yield at the time of its call date. This value is determined by the bond’s interest payments, its market price and the duration until the call date as that period defines the interest amount.

Municipal bonds, which are bonds issued by a state, municipality or county to finance its capital expenditures and are mostly non-taxable, also have a tax-equivalent yield (TEY). TEY is the pretax yield that a taxable bond needs to have for its yield to be the same as that of a tax-free municipal bond, and it is determined by the investor's tax bracket.

While there are a lot of variations for calculating the different kinds of yields, a lot of liberty is enjoyed by the companies, issuers and fund managers to calculate, report and advertise the yield value as per their own conventions. Regulators like Securities and Exchange Commission (SEC) have introduced a standard measure for yield calculation, called the SEC yield, which is the standard yield calculation developed by SEC and is aimed at offering a standard measure for fairer comparisons of bond funds. SEC yields are calculated after taking into consideration the required fees associated with the fund.

Mutual fund yield is used to represent the net income return of a mutual fund and is calculated by dividing the annual income distribution payment by the value of a mutual fund’s shares. It includes the income received through dividend and interest that was earned by the fund's portfolio during the given year. Since mutual fund valuation changes every day based on their calculated net asset value, the mutual fund yields are also calculated and vary with the fund’s market value each day.

Along with investments, yield can also be calculated on any business venture. The calculation retains the form of how much return is generated on the invested capital.

investment growth with coins with house

Bonds give you steady income

With a bond, you know what interest you're going to get because it's agreed on upfront. A typical bond will agree to pay a set amount of money, known as the coupon, on a regular basis – normally every six months – and for a predefined period.

During that period, the price of the bond will change from day to day, although normally not as much as is the case with shares. The coupon doesn't change, so the bond will pay out its agreed amount of money every six months. But, because the price is changing, the yield will change.

When prices rise, yields fall

And, because the price is the bottom of the fraction (the denominator) when you calculate yield if the price goes up, the yield goes down.

Think of it like this: the yield is an indication of how attractive investment is to a potential buyer. So if the bond is still paying out the same amount of money but the price goes up, the yield moves lower because the bond becomes less attractive.

Two main differences with shares

When we consider shares, the calculations are the same but there are two main differences. First, share prices move around a lot more than bond prices.

The second difference is that the income paid by shares – which comes in the form of dividends paid by companies – isn't guaranteed. It can move up or down or stop altogether. A well-managed company making healthy profits may well be able to pay rising dividends over time, but there is no guarantee.

So there's a lot more uncertainty around yield when it comes to shares than with bonds. The yield, often called dividend yield, will be more volatile because both the price of the shares and the income they provide are more volatile than with bonds.

Looking beyond the yield

These differences mean that yield is most useful when comparing similar investments, for example, one UK government bond against another or one car company share against another.

Even here, though, the yield is only part of the equation. Bond investors will also assess factors such as the bonds' maturity, which is the time left until the issuer repays the face value of the bond. Equity investors will consider things like the long-term profitability of the company concerned, which will be a key driver of moves in the share price.

Nevertheless, for similar investments that produce an income, yield can be a good starting point when thinking about which ones are most attractive.

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