It’s clear that we’re all about the lux life. We’re also about that yield life too. We like to get our money both ways...but, unlike
Drake
, we’re keeping it clean all the way around. Wall Street nerds try to make yield complicated by using the term in different situations to mean different things but we’re going to keep things Baccarat crystal clear for you and break it down.
Increasing stock prices aren’t the only way to make money in capital markets (the lux term for the stock and bond markets). Both stocks and bonds offer opportunities for investors to make money with yield. Here’s how.
Investors who own stocks make money when the price of the shares go up. This is called return. If the price of the stock goes up the return is positive but if the price of the stock goes down the return is negative. Simple enough. Let’s get comfortable with the fact that return is backward looking. Though we love Baccarat crystal...they don’t actually have a crystal ball that predicts stock prices. So, investors don’t know how their stock will perform until after it does what it does.
Yield, however, is something different. Its forward-looking. Yield is a measure of the income investors receive in the form of interest or dividends. Investors will know the yield of a stock or bond before they actually get paid on it. Here is the value that yield can bring to your portfolio:
- Bond Yields – You can make money with bonds in two ways: from interest payments and from selling it for more money than you paid. Remember, when you own a bond you have lent money to that company or issuer. In return, the issuer pays you interest and, at the end of that period, they also give you your money back. Most bonds pay a fixed rate of return at maturity so you know just how much money you will make or how much money the bond will yield. Let’s say you buy a bond that has a fixed interest rate of 7%. If interest rates go down, the bond you own becomes more attractive because its fixed rate of return (7%) has already been set and it's higher than the current rates available in the marketplace. On the flip side, if interest rates go up, your bond isn’t as cute as it was when you originally bought it and if you want to sell it, it will be hard to find a buyer for a 7% bond without having to discount the price.
- Bond Value in Portfolios – Including bonds in your investment portfolio is beneficial in multiple ways. First, bonds offer a cushion against the volatility of stocks. We are in the later stages of the longest bull market of all time and the road is going to continue to get bumpy. There is no need to ride the roller coaster without a seat belt. Bonds offer potential protection from the declines of stocks, in addition to the peace of mind of knowing how much interest you will receive in the future. While the potential protection bonds offer against declining stock prices isn't technically yield, it is something that investors have come to depend on and it is forward looking.
- Stock Yield: Dividends – In addition to rising stock prices, some stocks pay dividends which is basically additional money that a company will give to its shareholders regardless of whether their stock price increases. So, it’s entirely possible to lose money on a stock because its price went down but still make money on that stock because the company paid you a dividend. It’s also quite possible to make money both when the share price goes up and when the company pays a dividend. We love it when that happens.
Now, you're clear on yield. When looking at the returns of the stock market, pay attention to total return. Total return indicates the increase (or decrease) of the stock price, and dividends. Total return is basically the bottom line.
