Definition:
Bank discount yield is a method used to calculate the yield on short-term debt securities, such as Treasury bills and commercial paper. It expresses the annualized discount from the face value of the security to its purchase price.
Formula:
Bank Discount Yield = (Discount / Face Value) * (360 / Days to Maturity)
where:
- Discount = Face Value – Purchase Price
- Days to Maturity = Number of days until the security matures
Key points about bank discount yield:
- Short-term securities: Bank discount yield is primarily used for short-term debt securities.
- Discount: The discount is the difference between the face value of the security and its purchase price.
- Annualized yield: Bank discount yield expresses the yield as an annualized percentage.
- Days to maturity: The yield is calculated based on the number of days until the security matures.
Why is bank discount yield used?
- Standardized measure: Bank discount yield provides a standardized way to compare the yields of different short-term debt securities.
- Simple calculation: The calculation is relatively simple and easy to understand.
- Short-term investments: It’s commonly used for short-term investments, such as Treasury bills and commercial paper.
However, it’s important to note that bank discount yield may not accurately reflect the true yield to maturity for longer-term securities.
In essence, bank discount yield is a method used to calculate the yield on short-term debt securities, and it’s a common measure used in the financial markets.
