Invest
Price and yield: an inverse relationship for bonds
Fixed income is a major asset class which attracts numerous investors for a multitude of reasons, but understanding the relationship between a bond's price and its yield can be difficult for many. Richard Murphy from XTB explains how the two work and what a change in yield actually means.
Price and yield: an inverse relationship for bonds
Fixed income is a major asset class which attracts numerous investors for a multitude of reasons, but understanding the relationship between a bond's price and its yield can be difficult for many. Richard Murphy from XTB explains how the two work and what a change in yield actually means.

Rising share prices and property values make for happy investors. An increase in interest rates results in higher term deposit rates and again, investors are pleased. An increase in bond yields, however, can often leave investors confused and uncertain about the impact on their bond investments. So let’s look at the relationship between bond yields and prices.
The price is right
There are two components to be aware of when you buy a bond – its price and its yield.
When an investor buys a bond, they’re effectively making a loan to that government or corporation. In return for borrowing the investor’s capital, the bond is repaid in a specified time period and, for the duration of the loan, the investor is rewarded with regular coupon (or interest) payments.

Coupons are set with regard to the prevailing interest rates at the time, and for corporate bonds, the yield (or the amount an investor should realise on the bond) is generally higher than the cash rate.
This makes the bond a more attractive investment than a term deposit.
If you buy a bond at issue and hold it through to maturity, the investment will not be affected by changes to interest rates. As illustrated in Figure 1, coupon payments remain the same for the duration of the investment, and at maturity, the principal investment is repaid.
Figure 1: A bond bought at issue and held to maturity
Interest rates and bond prices
A buy and hold strategy is straightforward. However, if you wish to buy (or sell) a bond on the secondary market (i.e. after it has been issued), the relationship between the bond’s price and its yield becomes important.
This relationship is sometimes depicted as a see-saw – as one rises, the other falls. As illustrated in Figure 2, the two factors have an inverse relationship; in other words, a bond’s price moves in the opposite direction of its yield.
This is no different to dividend yields on shares. If a $1 share pays a 5 cent dividend, then its dividend yield is 5 per cent. If the share price rises to $2, then the dividend yield for a 5 cent dividend becomes 2.5 per cent. Price and yield move in opposite directions.
Figure 2: the effect of interest rates on bond yields and bond prices
The price of a bond reflects the value today of the income it provides via regular coupon or interest payments and the repayment of the principal. When interest rates fall, bonds are still paying the same coupon rate, so they become more valuable and will generally trade at a higher price.
When interest rates rise, new term deposits and bonds issued after the rise will start paying investors higher rates than existing older bonds that are still paying the same coupon rate. Therefore the price of older bonds will generally fall.
How does this work in practice?
What is important to note is that fixed rate bonds are sensitive to changes in interest rates, while floating rate bonds do not have the same sensitivity. However, while equities and hybrid investments can move up or down by 5 per cent or more, senior corporate bonds from well-capitalised and creditworthy ASX top 100 listed companies are not as volatile, unless interest rates move very dramatically.
The following table shows the price sensitivity of $100 Face Value bond units on ASX for a given interest rate change. It shows that long-dated corporate bonds are more sensitive to interest rate changes than short-dated ones (using data on exchange traded bond units, or XTBs).
In summary
While changes in interest rates may be a cause for concern for bondholders if they don’t hold to maturity, bonds do not exhibit the high levels of volatility seen in equities markets. Therefore corporate bonds remain a good source of both income and capital stability for investors seeking more defensive investments.
Richard Murphy is the co-founder and chief executive officer of XTB, a company which specialises in exchange-traded bonds.

Investment insights
Global investment giant tips market resilience and rate cuts to continue in 2025
State Street Global Advisors has predicted ongoing interest rate cuts and economic resilience for 2025, with its forecast of a US soft landing expected to materialise. Read more

Investment insights
UK pension funds and insurers plan significant investments in renewable energy
A new survey by AlphaReal reveals that UK pension funds and insurers are looking to increase their investments across a range of renewable energy technologies over the next five years. Read more

Investment insights
Morgan Stanley executive touts benefits of long-term equity investing
Investing in high-quality companies with sustainable returns can lead to strong long-term performance, according to a senior Morgan Stanley executive. Read more

Investment insights
Diversification key to managing political risks in global markets, says deVere CEO
Political uncertainties in Europe, the UK, and the US are driving market dynamics, making diversification crucial for investors, according to Nigel Green, CEO of deVere Group. Read more

Investment insights
Diversify AI investments beyond Nvidia for long-term wealth, says deVere Group CEO
Investors should look beyond AI giants like Nvidia and diversify their investments across the wider AI ecosystem to build long-term wealth, according to Nigel Green, CEO of financial advisory and ...Read more

Investment insights
Disappointment over Apple's AI plans and political uncertainty in France weigh on markets
Investors were left unimpressed by Apple's revelations about its artificial intelligence (AI) plans at the company's Worldwide Developer Conference yesterday. Despite details about a partnership with ...Read more

Investment insights
The future of investment: Trends shaping Australia in 2024
As we look towards 2024, the Australian investment landscape is poised to undergo significant transformations driven by technological advancements, economic shifts, and evolving consumer behaviorsRead more

Investment insights
Market rally faces next test as Nvidia earnings loom amid inflation debate
Equity markets around the world celebrated last week after softer-than-expected US inflation data fueled hopes of interest rate cuts, but questions remain over whether the rally can be sustained as ...Read more

Investment insights
Global investment giant tips market resilience and rate cuts to continue in 2025
State Street Global Advisors has predicted ongoing interest rate cuts and economic resilience for 2025, with its forecast of a US soft landing expected to materialise. Read more

Investment insights
UK pension funds and insurers plan significant investments in renewable energy
A new survey by AlphaReal reveals that UK pension funds and insurers are looking to increase their investments across a range of renewable energy technologies over the next five years. Read more

Investment insights
Morgan Stanley executive touts benefits of long-term equity investing
Investing in high-quality companies with sustainable returns can lead to strong long-term performance, according to a senior Morgan Stanley executive. Read more

Investment insights
Diversification key to managing political risks in global markets, says deVere CEO
Political uncertainties in Europe, the UK, and the US are driving market dynamics, making diversification crucial for investors, according to Nigel Green, CEO of deVere Group. Read more

Investment insights
Diversify AI investments beyond Nvidia for long-term wealth, says deVere Group CEO
Investors should look beyond AI giants like Nvidia and diversify their investments across the wider AI ecosystem to build long-term wealth, according to Nigel Green, CEO of financial advisory and ...Read more

Investment insights
Disappointment over Apple's AI plans and political uncertainty in France weigh on markets
Investors were left unimpressed by Apple's revelations about its artificial intelligence (AI) plans at the company's Worldwide Developer Conference yesterday. Despite details about a partnership with ...Read more

Investment insights
The future of investment: Trends shaping Australia in 2024
As we look towards 2024, the Australian investment landscape is poised to undergo significant transformations driven by technological advancements, economic shifts, and evolving consumer behaviorsRead more

Investment insights
Market rally faces next test as Nvidia earnings loom amid inflation debate
Equity markets around the world celebrated last week after softer-than-expected US inflation data fueled hopes of interest rate cuts, but questions remain over whether the rally can be sustained as ...Read more