Vinu: Hey Manu, can you explain what a treasury yield is? I've heard about it, but I'm not really sure what it means.

Manu: Sure, Vinu! Treasury yield refers to the return an investor gets on a U.S. government bond or treasury security. When you buy a bond, you're lending money to the government, and in return, they pay you interest over time. The yield is basically how much you’re earning annually for that investment, as a percentage of what you paid for the bond.

Vinu: Okay, so it’s the return on investment for buying a government bond. How is it different from the interest rate the bond pays?

Manu: Good question! The interest rate, also called the coupon rate, is fixed when the bond is issued. Let’s say you buy a $1,000 bond with a 3% coupon. You’ll get $30 in interest every year. But the yield depends on the price you pay for the bond. If you buy the bond for $1,000, your yield is exactly 3%. But if the bond price changes, your yield will change too.

Vinu: How does that happen? Can you give me an example?

Manu: Let’s say after you bought the bond, interest rates in the market go up. New bonds are being issued with a 4% coupon, which makes your 3% bond less attractive. So, you might have to sell it for less than $1,000, say $950. Now, if someone buys it for $950, they’re still getting the $30 interest every year, but their yield is higher, because they paid less for the bond. In this case, the yield would be around 3.16% ($30 ÷ $950).

Vinu: Oh, I get it now. So, the yield goes up when the bond price falls, and vice versa?

Manu: Exactly! And this inverse relationship is important because treasury yields are often used as indicators of overall market conditions. When yields rise, it usually means bond prices are falling, which can signal expectations of higher interest rates or inflation.

Vinu: That’s really interesting! So, people use treasury yields to get a sense of what’s happening in the economy?

Manu: Yes, precisely. For example, when treasury yields rise, it can mean investors expect the Federal Reserve to raise interest rates or inflation to increase. Lower yields might signal the opposite—investors are seeking safer investments because they’re worried about economic growth.

Vinu: That clears things up. Thanks, Manu!