How to Calculate Yield on Cost for Your Investments
Discover how to calculate Yield on Cost, a powerful metric revealing the long-term income performance of your investments relative to their original price.
Yield on cost is a metric for investors to understand the long-term performance of their income-generating investments. It provides a personalized view of an investment’s income stream relative to the original capital invested. This metric is useful for those who hold investments for extended periods, as it highlights how the income generated from their initial purchase evolves over time. By focusing on the original investment, yield on cost helps investors assess the effectiveness of their long-term investment strategy.
Understanding Yield on Cost
Yield on cost measures the annual income an investment generates as a percentage of its original purchase price. It provides a unique perspective on the return an investor receives on their actual invested capital, rather than on the investment’s fluctuating market value. This metric is especially relevant for assets that pay regular income, such as dividends from stocks or interest from bonds. For long-term investors, yield on cost illustrates the power of compounding and dividend growth. It shows how a modest initial yield can grow significantly over years or decades, reflecting an increasing income stream from the initial investment.
Steps to Calculate Yield on Cost
Calculating yield on cost involves a straightforward formula: (Annual Income per Share / Original Cost Basis per Share) 100. First, determine the annual income per share. For stocks, this refers to the total dividends received per share over a year. You can find this information on a company’s investor relations website, in its financial statements, or on your brokerage statements. Financial institutions report annual dividend income on Form 1099-DIV, issued by January 31st each year, providing a clear summary of your distributions.
Next, identify the original cost basis per share, which is the initial price you paid for each share, including any commissions or fees incurred at the time of purchase. For instance, if you bought shares for $100 each and paid a $5 commission per share, your original cost basis per share would be $105. Brokerage statements and trade confirmations are primary sources for this data. If you reinvested dividends, these reinvested amounts also increase your cost basis, as they represent new purchases of additional shares. Many online brokerage accounts provide tools and reports that track your adjusted cost basis, incorporating these factors.
Practical Examples
Consider an investor who purchased 100 shares of Company A several years ago at an original cost basis of $20 per share. Over the past year, Company A paid out a total of $1.50 in dividends per share.
To calculate the yield on cost for this investment, divide the annual income per share ($1.50) by the original cost basis per share ($20), then multiply by 100. This calculation results in a yield on cost of 7.5% ($1.50 / $20 100 = 7.5%). This demonstrates that the investor is now earning an annual income equivalent to 7.5% of their initial investment, even if the current market price of the stock has changed.
In another scenario, an investor bought 50 shares of Company B at $50 per share, including fees. This company initially paid a dividend of $1.00 per share annually. Over time, the company consistently increased its dividend, and it now pays $2.50 per share annually.
The yield on cost for Company B would be calculated as $2.50 (annual income per share) divided by $50 (original cost basis per share), multiplied by 100. This yields a yield on cost of 5% ($2.50 / $50 100 = 5%). These examples illustrate how the yield on cost provides a clear picture of the return on your initial capital, reflecting the growth of income over the investment’s holding period.
Yield on Cost Versus Current Yield
While yield on cost focuses on the original investment, current yield provides a different perspective by using the investment’s present market value. Current yield is calculated by dividing the annual income per share by the current market price per share, then multiplying by 100. This metric shows the income return an investor would receive if they purchased the investment at today’s market price.
The fundamental distinction lies in the denominator of the calculation: yield on cost uses the historical original purchase price, while current yield uses the dynamic current market price. Yield on cost is particularly insightful for long-term investors tracking the income return on their specific invested capital, especially as dividends increase over time. Conversely, current yield is more relevant for prospective investors or those evaluating the income potential of an investment at its present valuation.
Both metrics offer insights, but they serve different analytical purposes. Yield on cost reflects the return on your initial capital, providing a personalized measure of performance. Current yield, on the other hand, indicates the income return available to someone purchasing the investment today, making it useful for comparing current opportunities in the market. Utilizing both measures can provide a more comprehensive understanding of an investment’s income characteristics.