What Is the Difference Between Yield and Return? (2024)

Yield vs. Return: An Overview

Yield and return are two different ways of measuring the profitability of an investment over a set period of time, often annually. The yield is the income the investment returns over time, typically expressed as a percentage, while the return is the amount that was gained orlost on an investment over time, usually expressed as a dollar value.

Understanding Yield

Yield is the income returned on an investment, such as the interest from holding asecurity. The yield is usually expressed as an annual percentage rate based on the investment's cost,current market value,orface value. An investor can look at yield as gross yield, which does not deduct taxes and expenses, or net yield, which deducts those expenditures.

Yield may be considered known or anticipated depending on the security in question, as certain securities may experience fluctuations in value.

Yieldisforward-looking. Furthermore, it measures the income, such as interest and dividends, that an investment earns and ignores capital gains. This income is taken in the context of a specificperiod. It is then annualized with the assumption that the interest or dividends will continue to be received at the same rate.

A bond yield canhave multiple yield options depending on the exact nature of the investment. The couponis the bond interest rate fixed at issuance, and the coupon rate is the yield paid by fixed-incomesecurity.The coupon rate is the annual coupon payments paid by the issuer relative to the bond's face or par value.

The current yield is the bond interest rate as a percentage of the current price of the bond. Theyield to maturityis an estimate of what an investor will receive if the bond is held to its maturity date.

Understanding Return

Return is thefinancial gain or loss on an investment and is typicallyexpressed as the change in the dollar value of an investment over time.Returnis also referred to as total return and expresses what an investorearned from an investment during a certain period. Total return includes interest, dividends, and capital gain, such as an increase in the share price. In other words, a return is retrospective or backward-looking.

For example, if an investor bought a stock for $50 and sold it for $60, the return would be$10. If the company paid a dividend of $1 during the time the stock was held, thetotal return would be $11, including the capital gain and dividend. A positive return is a profiton an investment, and a negative return is a loss on an investment.

Risk and Yield

Risk is an important component of the yield paidonan investment. The higher the risk, the higher the associated yield potential.Some investments are less risky than others. For example, U.S. Treasuries carry less riskthan stocks. Sincestocks are considered to carry ahigher risk than bonds,stocks typically havea higher yield potential to compensate investors for theadded risk.

For example, government bonds from stable countries offer lower yields because they are seen as low-risk, whereas corporate bonds from companies with uncertain financial health must offer higher yields to compensate for the possibility of default. In equity markets, stocks with higher volatility or uncertain growth prospects often offer the potential for higher returns, reflecting their greater risk. The logic here is straightforward: without the promise of higher yields, investors would have little incentive to invest in riskier assets, leading to a mismatch between the supply of and demand for these investments.

The Rate of Return vs. Yield

Rate of returnand yield bothdescribe the performance of investments over a set period (typically oneyear), but they have subtle and sometimes important differences. The rate of return is a specific way of expressing the total returnonan investment that shows the percentage increase over the initial investment cost. Yield shows how much income has been returned from an investment based on initial cost, but it does not includecapital gainsin its calculation.

Rate of return can be applied to nearly any investment while yield is somewhat more limited because not all investments produce interest ordividends. Mutual funds, stocks, and bonds are three common types of securities that have both rates of return and yields.

The formula for rate of return is:

$\frac{\text{Current Price }-\text{ Original Price}}{\text{Original Price}}\times{100}$OriginalPriceCurrentPrice−OriginalPrice​×100

In our earlierexample,if a stock is bought for $50 and sold for $60, your return would be$10 for the investment. Adding thedividend of $1 during the time the stock was held, thetotal return is $11, including the capital gain and dividend. The rate of return is:

$\begin{aligned} &\frac{\$60\left(\text{Current Price}\right)\text{ }+\text{ }\$1\left(\text{D}\right)\text{ }-\text{ }\$50\left(\text{Original Price}\right)}{\$50}\\ &=0.22*100\\ &=\text{22\% Rate of Return}\\ &\textbf{where:}\\ &\text{D = Dividend}\\ \end{aligned}$​$50$60(CurrentPrice)+$1(D)−$50(OriginalPrice)​=0.22∗100=22%RateofReturnwhere:D=Dividend​

Consider amutual fund, for example. Its rate of return can be calculated by taking the total interest and dividends paid and combining them with the current share price, then dividing that figure by the initial investment cost. The yield would refer to the interest and dividend income earned on the fund but not the increase—or decrease—in the share price.

There are several different types of yield for each bond:coupon rate,current yield,andyield to maturity. Yield can also be less precise than the rate of return since it is often forward-looking, whereas the rate of return is backward-looking. Many types of annual yields arebased on future assumptions that current income will continue to be earned at the same rate.

Users of Yield vs. Return

Yield is typically used by those focused on income generation, while return is used by those looking at overall investment performance. Because of this, there are a few different types of people who may be more interested in yield as opposed to returns. Those people may include but aren't necessarily limited to:

• Income-Focused Investors: Income-focused investors, such as retirees or those seeking to generate a steady cash flow, prioritize income over capital appreciation. Yield is crucial to them because it represents the income generated as a percentage of their investment that they may need to cover living expenses or other needs. The fluctuations in asset prices that impact total return are less relevant unless they intend to liquidate the investment.
• Bond Investors: Bond investors typically hold bonds until maturity, focusing on the interest payments or coupon yield they will receive over time. Yield provides a clear picture of the regular income they can expect relative to the bond’s current price
• Dividend Stock Investors: Investors who focus on dividend-paying stocks are primarily interested in the income generated by these dividends rather than capital gains. Yield is important to them because it indicates the annual dividend income relative to the stock’s price, helping them gauge the potential for consistent cash flow.
• Fixed-Income Analysts and Traders: Fixed-income professionals focus on yield as it directly impacts the valuation and attractiveness of fixed-income securities like bonds, mortgage-backed securities, and other debt instruments. This is because of the same reasons listed for the bullets above: yield helps them evaluate the income potential and relative risk of different securities.
• Lenders: Lenders, such as banks and other financial institutions, use yield to determine the profitability of loans and lending activities. Yield represents the interest income they generate relative to the loan amount, and banks want to know this to maintain profitability and manage risk.

The Bottom Line

Yield measures the income generated by an investment relative to its price, typically expressed as a percentage and focusing on regular payments like interest or dividends. Return encompasses the total gain or loss from an investment, including both income and changes in its price.