Yield is the yearly rate of return a buyer earns on the money they pay for your note. It is set by the price they pay and the payments they receive, which makes it a different number from the interest rate written on the note.
Yield and interest rate
The interest rate is what your payer agreed to pay on the money they owe. It was fixed the day the note was signed, and a sale leaves it, and the payer’s monthly payment, exactly as they were.
Yield is what the new owner earns on the money they put in. A buyer who pays you the full balance earns the note’s interest rate, so the yield and the rate match. A buyer who pays less than the balance collects the same payments on a smaller outlay, and their yield is higher than the rate.
| Interest rate | Yield | |
|---|---|---|
| Who it belongs to | The payer’s cost | The buyer’s return |
| Measured against | The balance owed | The price paid |
| Set by | You and the payer, at the original sale | The buyer, when they make an offer |
| Changes when the note is sold | No | It is created by the sale |
An example with figures
A note pays $1,140 a month. It has 168 payments left, about $129,400 owed and an interest rate of 6%.
A buyer pays $115,000 for it. They now receive $1,140 a month for 14 years on an outlay of $115,000 where the balance was $129,400. Worked out as a yearly rate, that return is 8%. The note’s rate is still 6%, and the buyer’s yield is 8%.
Illustrative example. The 8% is chosen to show the mechanics. It is neither a quote nor a typical figure.
Yield and price move in opposite directions
The payments are fixed, so the only thing a buyer can adjust is the price. To earn a higher yield from the same payments they must pay less, and if they will accept a lower yield they can pay more. In the example, a buyer who needed more than 8% would offer less than $115,000, and one who would accept exactly 6% could pay the whole balance. When a buyer talks about raising their yield, they are talking about lowering your price.
How a buyer uses yield
A buyer decides on a yield first, based on how risky the note looks and what their own money costs them. Then they calculate the present value of your remaining payments at that yield, which is what those future payments are worth today at that rate of return. The present value is the offer.
The yield, then, is where the buyer’s judgment about what your note is worth goes in. A payer with a long clean record, a large down payment and a first lien on a house will be priced at a lower yield than a new note with a thin down payment. Features like those decide what yield note buyers look for on a given note.
Why a seller should ask for the yield
Comparing offers by price works when the offers are for the same thing. Yield helps in the cases where they are not.
- Comparing a full sale with a partial. A price of $115,000 for all 168 payments and $56,200 for the next 60 look very different. Both come from the same 8% yield, so the buyer is treating you the same in each.
- Spotting a weak offer. If one buyer’s price implies a much higher yield than another’s on the same note, the first buyer is asking you to pay for more risk than the second one sees.
- Checking the math. With the yield, the payment and the number of payments, anyone can recalculate the price. An offer that will not state its yield cannot be checked.
Offers that come back from a pricing request to us state the yield on a note pricing worksheet, with the balance and the payment count beside it.
Getting the yield in writing
If an offer reaches you as a dollar figure alone, ask the buyer to write down the yield, the balance and the number of payments they priced. Those are the inputs to their own calculation, so a buyer has them to hand. With them you can rerun the arithmetic in how note buyers calculate a price.
Ask for the yield before you weigh anything else about the offer. If your own figure and the buyer’s price do not agree, check the balance and the payment count first, and settle the difference before you sign.
Related questions
Does a higher yield mean a better offer for me?
No, the reverse. Yield is the buyer's return. A higher yield for the buyer means a lower price for you. As a seller you want the offer built on the lowest yield.
Does selling my note change my payer's interest rate?
No. The payer's rate, payment and payoff date stay as written in the note. Yield only describes what the new owner earns on the price they paid.
Can I calculate the yield on an offer myself?
Yes, with a financial calculator or a spreadsheet. You need the price offered, the monthly payment and the number of payments left. A spreadsheet's rate function returns the monthly rate, which you multiply by twelve.