Booyah Breakdown: Bonding With Bonds, Part 3

Editor's Note: This is the third of a three-part Booyah Breakdown series on bonds.

The Booyah Breakdown has been on a mission to decode the bond market.

We've been through the bond basics -- face value, interest rate and yield -- and then we talked bout how a bond's interest and price changes in the market.

So it's now time for our grand finale -- that disturbing inverted yield curve.

Yield for the Yield

First, let's revisit a bond's yield.

The yield on any investment is basically the annual rate of interest return. That's your annual cash inflows divided by the price of your investment, shown as a percentage.

So let's say you buy a $1,000 bond with a 5% interest, or coupon, rate. That means that you will receive an annual payment of $50. But what if you don't buy the bond at face value? What if the company recently came out with bad earnings news and the bond's price slips to $800? How much is the yield then?

Divide your payments by your price (50/800 x 100) and your bond is actually yielding 6.25%. That lower price increases your rate of return. In other words, the price and the yield are inversely proportional -- the yield goes up when the price goes down and vice versa.

So now 6.25% ends up in your wallet instead of 5%! Yippee!

Well, that yield number also ends up on the infamous yield curve.