How do I calculate the return on a bond?
Total return on a bond is based on two key elements: coupon rate and capital gain or loss. The first element is the interest rate it pays, which is called the “coupon.” (This term dates from the 19th and early 20th centuries when bond certificates s were issued with interest payment coupons physically attached.) Most bonds pay interest twice each year, so if the coupon is 6%, you will get a 3% interest payment twice each year based on the face value of the bond.
The second element in bond return is capital gain or loss. Bonds fluctuate in value, just like stocks, so your bond can gain or lose value during the time you hold it. Bond values move in the opposite direction of interest rates. So if interest rates go down during the period of time you hold the bond, its value goes up. If rates go up, your bond loses value if you were to sell it in the open marketplace. However, if you hold any bond to maturity, and the bond issuer remains solvent, you will get the face value back upon maturity.
By adding the interest rate return you garner from the bond during the period you hold it, to any capital gain or loss realized upon sale of the bond, you will have determined your total return.
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