Clive wrote:I've not read the other posts, nor any of the links, and maybe I'm being dense, but wont the YTM reflect what an investor would actually achieve when held to maturity - in advance? Fixed income does that, you know exactly how much you'll earn at the time of purchase when the intent is to hold to maturity.
Not for a bond fund, and not exactly for an individual, non-zero-coupon bond. Let's look at individual bonds first.
For a non-zero-coupon bond, the YTM calculation assumes that interest is reinvested at the calculated YTM rate. This is unlikely to be the case since rates are unlikely to be constant over the term of the bond. So the the total return if held to maturity would be higher or lower than the YTM, depending on the rates at which the coupon payments are reinvested.
A callable bond could be called, so you may not have the choice to hold it to maturity. This is why yield to call or yield to worst are often published for bonds. So despite your intent to hold to maturity, you may not end up holding to maturity. If you buy at a premium or discount, that also will affect your return if the bond is called, since you may get paid less (or more) than you paid. Then you also probably are looking at reinvesting the proceeds at a lower rate.
For a zero coupon bond, the YTM does indicate exactly what you'll earn if held to maturity. This is because their are no coupons, so there is no reinvestment risk. Of course if the bond is callable, that could throw a wrench in the works.
For a bond fund, reinvestment risk also is a factor as it is with individual bonds (since a bond fund is just a collection of bonds), and if the fund owns callable bonds the potential of bonds being called is a factor, but there's also the issue that bond funds don't mature (at least typical bond funds), so there is no maturity to hold it to. Intermediate term bond funds probably don't hold bonds to maturity, as you can see if you look at the maturity distribution for such a fund, and it has been argued in another thread that this actually could result in the YTM (or SEC yield, which is similar for a bond fund) understating the expected return of the fund, at least based on the current shape of the yield curve and assuming that it won't change much (EDIT
: this is more of a factor for something like Intermediate-Term Treasury fund, which does not hold any bonds in the 1-3 year maturity range, as opposed to TBM which holds 26% of its bonds in the 1-3 year maturity range).
Finally, just looking at the charts above shows that although YTM is a pretty good predictor of return, it's not precise. I believe John Bogle stated that there has been a 91% correlation between YTM and following 10-year returns for the aggregate bond market (as represented by total bond funds). Note the post above that showed a few periods where the prediction was off by a fair amount.