The Truth about Yield

In summary

  • There are a variety of yield measures, each with a different purpose and calculation behind it. Accurate yields – and knowing which ones to use when – are critical to comparing investment options.
  • Due to rising rates in 2022, some yields have become distorted. In particular, SEC yields are skewing lower for fixed income funds holding securitized bonds because the SEC yield uses the historical purchase price in its calculation. 
  • Yield to maturity uses current market pricing – not the historical purchase price – in its calculation, making it a more accurate measure of a bond fund’s yield in today’s environment.

Growing up in the Midwest, harsh weather was not uncommon, including the occasional tornado. One particular abrupt and violent storm remains firmly engrained in my psyche: Spending the night huddled in the basement as the house shook, waiting for the tempest to pass. That is what 2022 felt like to me. As investors opened their 2022 year-end statements (something many may have been avoiding up until now), they saw an S&P 500 and a US Bloomberg Aggregate down 18% and 13%, respectively. Cash was the only hiding place amidst the storm of volatility that shook the financial markets. As wave after wave of Fed hikes crashed down on valuations last year, many clients chose this path, hiding out in cash and waiting for the volatility to subside. 

While we await the definitive “all-clear” signal, we are beginning to see a meaningful change in trend as inflation begins to cool and the Fed slows its hiking pace, pointing to an eventual pause and further rate stability. As these trends take hold, investors are now beginning to peer out from their bunkers to survey the damage and, more importantly, assess where best to redeploy their stockpile of cash now that prices and yields have adjusted so meaningfully. 

As we – J.P. Morgan’s Global Fixed Income Currency and Commodities (GFICC) team – assess the opportunities ahead, we believe 2023 is setting itself up to be the year for fixed income. With yields repriced higher than they’ve been in over a decade and a potential recession looming, high-quality bonds look to be one of the most attractive asset classes across the investable universe.

The issue investors face today is that the interest rate storm we just experienced hit so suddenly – and with such ferocity – that time-tested metrics we have relied upon for years to make educated decisions have broken down and are, in fact, misleading us when we need them the most. Specifically, bond fund yields – a primary tool used when evaluating fund options – have become confusing, unclear and, at times, just plain inaccurate. 

It is here where my colleague, Mark Willauer, and I look to provide transparency and clarity to the most widely-used yield metrics as well as which yields we believe clients should consider as they analyze their investment opportunities heading into 2023. 

Why yields matter

Obtaining an accurate yield is critical when evaluating bond funds. Let’s use the yield to maturity (YTM) of the US Bloomberg Aggregate Index (the “Agg”) as an example. At a high level, YTM is the annual total return anticipated on a fixed income portfolio if all the bonds within the portfolio were held until the end of their lifetime (maturity). As a rule of thumb, a fixed income portfolio is often expected to deliver annualized returns similar to its starting YTM over the duration of the portfolio, not accounting for active management. To test this theory, we pulled historical yields and returns for the US Bloomberg Aggregate. As illustrated in the chart below, the starting yield has been an excellent indicator of future returns over the rolling ~6-year duration of the Agg throughout the history of the index.     

Key Takeaways: Investors need an accurate yield to weigh expected returns and compare investment options. Additionally, the sharp increase in yields last year should bode well for fixed income investments moving forward. 

SEC yields are currently “distorted” and yield to maturity may be more accurate

There are multiple variations of “yield,” each having a different purpose, calculation and set of benefits and shortcomings. With multiple yields quoted as well as distortions due to the recent market volatility, it can be confusing for clients to know which yield to use when evaluating bond funds today. The table below provides this much-needed clarity, highlighting some of the most commonly-used bond fund yields, what they are meant to do, benefits, shortcomings and our thoughts on each in today’s environment, with specific focus on the industry standard, SEC yield.  

Key Takeaways: Although the SEC yield is a standardized yield used across the industry, due to extreme rate volatility in 2022, it has broken down for funds utilizing securitized bonds, such as mortgage-backed and asset-backed securities. Because the SEC yield uses historical purchase price in its calculation (vs. current pricing for YTM), it causes yields for funds holding securitized bonds to be artificially lower than they actually are and not a true indicator of their future return potential. For example, securitized bonds purchased before 2022 still reflect lower yields despite the reality that the market has repriced yields significantly higher. In the end, while some of the other yield calculations can provide insights, we believe net YTM (YTM less any fees) is a more accurate and better indicator of future returns, reflecting current market prices across security types. 

Yield calculations in action

Real-life examples can help demonstrate our point and the extent to which these differences in calculations are creating wide dispersions in yields in today’s environment. First, to showcase the breakdown in the SEC yield calculation, we’ve plotted several of our J.P. Morgan fixed income funds on the graph below, comparing percentage allocation of securitized bonds to the difference between net YTM and SEC yield. As expected, and as illustrated in the chart below, the greater the allocation to securitized debt (moving left to right), the larger the difference between the two yields (bottom to top). One of the primary goals of the SEC yield is to create comparability between funds across the industry. Unfortunately, the recent volatility we have experienced is causing just the opposite effect: For those funds with allocations to securitized bonds, the SEC yield will look artificially low compared to those funds without.   

In the table below, we’ve listed the various yields across several of our flagship bonds funds. The results are as we would expect in today’s environment; the net YTM is significantly higher than the SEC yield, coupon yield, current yield and dividend yield. This is for all the reasons discussed in the table above – the net YTM factors in current market pricing and provides a more complete picture of total return potential, whereas the other calculations utilize either historical pricing and/or only provide part of the picture.

Key Takeaways:  As we look across these multiple yield calculations, net YTM is our recommended yield, factoring in current market pricing and providing what we believe is the best indication of future expected returns (not factoring in active management). The good news for investors is after this past year’s substantial repricing in the bond market, net YTM is now materially higher, providing a much more attractive entry point as investors look to deploy capital in 2023. 

So, as rates begin to stabilize and the dark skies over the bond market begin to clear, clients will emerge to find a far more attractive fixed income environment. Our hopes are that investors will be better armed with the additional insights and clarity they need to confidently weigh their investment options, avoid misleading yields and choose the best path forward for their portfolios. While 2022 was a year to take cover, we firmly believe 2023 will be the year of the bond!

Mutual funds have fees that reduce their performance: indexes do not. You cannot invest directly in an index.

Source: J.P. Morgan Asset Management & Bloomberg as of 12/31/2023

The performance quoted is past performance and is not a guarantee of future results. Mutual funds are subject to certain market risks. Investment returns and principal value of an investment will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original cost. Current performance may be higher or lower than the performance data shown. For performance current to the most recent month-end please call 1-800-338-4345.

Appendix 1

Side note: We began reporting net YTM for all JPMorgan fixed income funds on the J.P. Morgan website in January 2023 to provide clients with the most up-to-date and accurate yield data.

Appendix 2

For those who would like to dive a little deeper, we wanted to provide an example of how two bonds would be handled across the various yield measures.

Corporate Bond: In this example you purchased Corporate Bond XYZ at $94.00 and over the past year it dropped 11.5pts to $82.50. As a quick reminder, bond prices and yields have an inverse relationship, so over 2022 as the price of your bonds fell, their yield increased. Despite this move, your Dividend Yield lagged because it is calculated using the historical purchase price1 of $94.00. Since the SEC Yield uses current market prices for corporate bonds, you will notice that the YTM, YTW and SEC Yields (gross of fees) are all equal. In this example 9.5% represents the annualized total return potential for this bond coming from coupon and “pull to par” (amortization or accretion).

Mortgage (Securitized) Bond: In this example you will notice the same price drop from $94.00 to $82.50. Since YTM and YTW use the current market price, the price impact has been factored into the yield (9.5% yield). However, because the SEC Yield and Dividend Yield use the historical purchase price1 you will notice that they significantly lag. The SEC Yield also lags the Dividend Yield because the SEC Yield does not account for “pull to par” (amortization or accretion) for securitized products.2 In this example both the SEC Yield and Dividend Yield are not representative of the annualized total return potential for this bond.

Must be preceded or accompanied by a prospectus.
RISKS ASSOCIATED WITH INVESTING IN FIXED INCOME FUNDS: Interest Rate Risk. The Fund’s fixed income securities will increase or decrease in value based on changes in interest rates. If rates increase, the value of the Fund’s investments generally declines. On the other hand, if rates fall, the value of the investments generally increases. Your investment will decline in value if the value of these investments decreases. The Fund invests in variable and floating rate Loans and other variable and floating rate securities. Although these instruments are generally less sensitive to interest rate changes than other fixed rate instruments, the value of floating rate Loans and other securities may decline if their interest rates do not rise as quickly, or as much, as general interest rates. Securities with greater interest rate sensitivity and longer maturities tend to produce higher yields, but are subject to greater fluctuations in value. Usually, changes in the value of fixed income securities will not affect cash income generated, but may affect the value of your investment. Given the historically low interest rate environment, risks associated with rising rates are heightened. Credit Risk. There is a risk that issuers or counterparties will not make payments on securities and repurchase agreements held by the Fund. Such default could result in losses to the Fund. In addition, the credit quality of securities held by the Fund may be lowered if an issuer’s or a counterparty’s financial condition changes. Lower credit quality may lead to greater volatility in the price of a security and in shares of the Fund. Lower credit quality also may affect liquidity and make it difficult for the Fund to sell the security. Strategy Risk. The Fund’s strategy of seeking to provide a predictable level of dividend income may not be successful. The income payable on debt securities in general and the availability of investment opportunities varies based on market conditions. In addition, the Fund may not be effective in identifying income producing securities and managing distributions; as a result, the level of dividend income may fluctuate. The Fund’s investments are subject to various risks including the risk that the counterparty will not pay income when due which may adversely impact the level and predictability of dividend income paid by the Fund. The Fund does not guarantee that distributions will always be paid or paid at a predictable level.
There can be no assurance that the professionals currently employed by JPMAM will continue to be employed by JPMAM or that the past performance or success of any such professional serves as an indicator of such professional’s future performance or success. 30-day SEC Yield: Represents net investment income earned by a fund over a 30-day period, expressed as an annual percentage rate based on the fund's share price at the end of the 30-day period. The 30-day yield should be regarded as an estimate of investment income and may not equal the fund's actual income distribution rate. 30-day SEC Yield (unsubsidized): Unsubsidized yield does not adjust for any fee waivers and/or expense reimbursements. Dividend Yield: The dividend yield for monthly paying Funds is calculated by annualizing actual dividends distributed for the monthly period ended on the date shown and dividing by the net asset value on the last business day for the same period.
Past performance does not guarantee future results. Total returns assumes reinvestment of any income. Total return assumes reinvestment of dividends and capital gains distributions and reflects the deduction of any sales charges. Performance may reflect the waiver of a portion of the Fund's advisory or administrative fees for certain periods since the inception date. If fees had not been waived, performance would have been less favorable.
J.P. Morgan Funds are distributed by JPMorgan Distribution Services, Inc., which is an affiliate of JPMorgan Chase & Co. Affiliates of JPMorgan Chase & Co. receive fees for providing various services to the funds. JPMorgan Distribution Services, Inc. is a member of FINRA.