Association for Financial Professionals (AFP) Practice Exam

Which of the following options defines the bond equivalent yield?

1. A yield quoted on a 360-day basis

2. A yield calculated for the time a security is held

3. A yield that represents the interest earned annually

4. A yield adjusted by the number of holding periods occurring in the year

The correct answer is: A yield that represents the interest earned annually

The bond equivalent yield (BEY) is a measure used to compare the annualized yield of a bond to that of a money market instrument. It essentially converts the yield on a non-annualized investment to an annualized figure, allowing for a clearer comparison with other investments. The option that describes the bond equivalent yield as representing the interest earned annually captures the essence of what BEY does. It provides investors with a way to understand how much they would earn in interest on an investment over a year, taking into account different compounding periods or payment frequencies. This metric is particularly useful for comparing bonds that may have different payment schedules to those that pay interest on an annual basis. While the other options describe various aspects of yield calculations—like the day count convention used (360-day basis), yield for specific holding periods, or adjusting by number of holding periods within a year—they do not encapsulate the core purpose of BEY. The focus of BEY is to facilitate direct comparisons on an annualized basis, making option C the most accurate description.