In finance, the terms yield and interest rate seem similar and interchangeable though there are many differences between the two terms. The concepts of the two terms are similar and co-related, and very important for investors to know. Though the two terms are used very widely and differently in business. And two terms are used in a totally different situation.
Yield vs Interest Rate
The main difference between Yield and Interest rate is that yield represents the money that is lent while interest rate represents the money that is borrowed. Yield is the percentage of earnings a person gets back from an investment over a specific period. An interest rate is the percentage rate that is charged when a person wants a loan.
Yield is the amount of money returned to the investor after using it for a temporary condition. Yield is the profit that is made on an investment, a collective profit earned by investing in financial commodities. It is higher than interest.
Interest is the percentage of fees charged by the lender to the loaner for the amount of money the loaner has borrowed. The interest rate differs according to the money, it is always decided in percentage. It can be 2%, 5% 10%, or any percentage and have to be turned in to the lender above the money he has loaned.
Comparison Table Between Yield And Interest Rate
| Parameters of Comparison | Yield | Interest Rate |
| Definition | Yield is the total earning which is made from the investment. | Interest rate is the fixed percentage amount that the loaner has to pay to the lender, over the principal amount. |
| Time Period | A yield is calculated annually. | It can be weekly, monthly, quarterly, or annually. |
| Dependence | Yield includes the interest rate. | Interest rate is calculated independent of yield. |
| Formula | Yield = Net Realized Return / Principal Amount | Interest Rate = (Simple Interest × 100)/(Principal × Time) |
| Presented as | Mostly as presented but sometimes in currency as well. | Always in percentage. |
What is Yield?
A yield is a measure that is a profit on an investment returned to the holder of the security, such as stock or bond. It is profit which is gained or cash flow returned to the investor, over a specific time. Mostly, a yield is calculated annually, though sometimes it is also calculated quarterly, and half-yearly.
Yield is a term used in stocks, bonds, annuities, fixed income instruments, etc. Yield is the total earning or profit of the investor which includes interest as well. It also includes dividends that are received by holding particular investments. For putting money in an investment, the investor earns interest and dividends, the money that the investor gain as a total is called the yield. Yield is more accurate and gives a precise understanding of the total earning which is made from an investment as it takes factors such as tax benefits into consideration.
There are different types of yield with different methods of calculations according to the type of security. They are: Yield On Stocks, Yield on Bonds, Yield to Maturity, Yield to worst, and yield to call.
The common formula for calculating the yield is: Yield = Net Realized Return / Principal Amount
What is Interest Rate?
Interest rate is the fixed percentage that has to be turned in to the lender by the loaner as an interest to the money he has borrowed. The interest rate depends on the amount of money that is borrowed, and the time period. The time can be weekly, monthly, quarterly, annually, etc. An interest rate is always applied on a loan. The loan can be given by any bank or money lender.
For example, if you borrow 10,000 $ for a year and there is an interest rate of 10% a year, then the borrower has to give the 10% of 10000$ as interest. That is he has to give 1000$ as interest. The total being 11000$.
There are many different types of interest: Fixed interest, variable interest, simple interest, discount rate, prime rate, compound interest, etc. Mostly, simple interest and compound interest are used. The interest rate formula helps to calculate the amount of money that has to be repaid towards a loan taken as well as the interest over it. And interest rate is always calculated and presented in percentage term.
The formula of simple interest rate: Interest Rate = (Simple Interest × 100)/(Principal × Time)
The formula of compound interest: Compound interest rate = Principal amount (1+ rate of interest) time period – Principal amount
Main Differences Between Yield And Interest Rate
- Yield is the total earning which is profited from the investment which also includes the interest rate. Although the interest rate is the fixed percentage amount that the loaner has to pay to the lender.
- Yield is always higher than the interest rate.
- Yield includes the interest rate while on the other hand Interest rate is independent of the yield.
- Yield is calculated annually however interest rate can be calculated weekly, monthly, annually, quarterly, etc.
- The yield represents the lent money while the interest rate represents the borrowed money.
Conclusion
The concept of the terms yield and interest rate are similar. Also, the two terms are co-related. Though both the terms are used very distinctly. Yield is the total earning profit that is made from an investment which includes interest rate. Yield is a measure that is mostly applied in common stocks, preferred stocks, bonds, and annuities. Yield is more accurate it includes interest rates, dividends as well as tax benefits. And so, yield is always higher than interest rate.
Interest rate is the percentage of money that has to be turned in to the lender by the loaner as an interest to the money he has borrowed. It’s a profit to the lender. Mostly, the interest rate is a measure applied by banks and money lenders. The interest rate is usually lower than the yield but it is calculated independent of yield.
References
- https://link.springer.com/book/10.1007/978-3-662-12106-1
- https://arxiv.org/abs/1006.4767