How is Bond Performance Measured?

A bond is a certificate of debt that can be purchased as an investment. Bond performance is measured by determining the amount of return an investor gets from a bond compared to the amount that he paid. This measurement, which is also called yield, is dependent upon the interest rate, paid by the bond issuer, and by the face value of the bond, which is the amount of principal the investor receives on the bond. Simply dividing the interest received by the face value will give a percentage that is the equivalent of the bond yield. It is important to note, however, that bonds are not always traded at face value, so the actual buying price will affect the bond performance as well.

Many investors choose bonds because of the stability that they provide even in tough economic times. When an investor buys a bond, he is essentially giving a loan to the bond issuer, which can be any institution, from a government to a corporation, seeking to raise funds. In return, the issuer pays back the investor with regular interest payments and eventually repays the principal at the end of the bond term. Investors seek to measure bond performance so they can choose the ones best suited to their investment needs.

The basic equation to measure bond performance, also called bond yield, requires dividing the total interest payments by the face value of the bond. For example, imagine that a bond holder receives $200 US Dollars (USD) in interest over the life of a bond that has a face value, also called the par value, of $1000 USD. Dividing $200 USD by $1,000 USD yields a rate of .20, or 20 percent. Investors should realize that the coupon rate of this bond is also 20 percent, since the bond yield will always equal the coupon rate when bonds are purchased at face value.

Measuring bond performance is rarely that simple though, because bonds are often purchased at a price other than face value. In those cases, the yield of a bond moves in inverse direction of the price of the bond. For example, a bond purchased at lower than par value would have a higher yield, while one purchased at above face value would have a lower yield.

This dichotomy in bond performance means that the perception of bond value depends on the position of the investor. Someone who holds a bond doesn't mind the price going up, because the coupon remains the same and the higher price means that the bond is worth more if the investor chooses to sell. On the other hand, those looking to buy a bond are likely to seek out bonds with lower prices and higher yields.