**What is the Difference Between a Distribution Yield and an SEC yield? **

Trying to determine the yield on a bond mutual fund or bond exchange-traded fund (ETF) can be challenging unless you know the difference between the SEC yield and the distribution yield. Which yield calculation should you look at, and why does it matter?

**What is a Distribution Yield? **

The distribution yield of a fund or ETF can be deceiving, since it can lead people to make investments based on the expectation of a certain amount of yield, when in reality the yield will be much lower. The distribution yield simply takes the fund's current monthly income dividend per share, annualizes it (by dividing by the number of days in the month and multiplying by 365) and shows the yield as a percentage of the fund's average net asset value (NAV) during the month.

More important than the math behind the calculation is this: the distribution yield is *backward-looking*, and not necessarily representative of the yield an investor will get in the *future*.

**What is an SEC yield?**

The SEC yield is so named because it is the yield companies are required to report by the Securities and Exhange Commission. The SEC yield figure approximates the yield an investor would receive in a year assuming that each bond in the portfolio is held until maturity. This measure also assumes reinvestment of all income, and it accounts for fees and expenses.

The SEC yield provides a more accurate result than the distribution yield, and it is more consistent on a month-to-month basis. The SEC yield is therefore the best method for making an apples-to-apples comparison of the future yield you can expect when evaluating two or more mutual funds or ETFs.

Bond funds quote a 30-day SEC yield, while money market funds quote a 7-day SEC yield.

**Why are the SEC and Distribution Yields Different?**

This is a question best answered by an excerpt from a May 16, 2003 article from the Wall Street Journal, by Karen Damato, titled “Bond-Fund Yield Quotations Can Yield a Bit of Confusion.”

* “To understand why (the yields are different), consider the mechanics of a single bond whose interest payments are fixed in dollar terms. At the time the bond was issued, if the going rate for such bonds was, say, 6%, the bond would pay $6 of interest a year for each $100 of face value. Over time, as market interest rates rise or fall, the resale price of the bond fluctuates. If the going interest rate for such bonds declines, for instance, buyers might pay $102 or $105 for the bond's higher coupon.* (Ed. note: prices and yields move in opposite directions).

*"You could measure what is called the "current yield" of that bond by taking the fixed interest payment as a percentage of the now-higher price. The distribution rate of a bond fund similarly reflects the actual interest earnings being paid out to the fund's investors, after various expenses, as a function of the fund share price.*

*But “as a bond manager you never think in terms of current yield, ever,” says Jeffrey Gundlach, co-manager of TCW Galileo Total Return Bond Fund. The reason, with premium bonds, is simple: That bond now trading at $105 is going to be redeemed at maturity at $100, so the price will sooner or later drift down to that level. "You have to figure that loss somewhere into your return expectation," Mr. Gundlach explains. *

*Bond professionals such as Mr. Gundlach buy and sell bonds based on their yields to maturity, a calculation that adjusts the income payments from premium bonds -- those selling for more than their par value -- to reflect the eventual drop in price.*

The SEC yield accounts for this drop in price, whereas the distribution yield does not. For that reason it is the more accurate measure. Since the distribution yield is backward-looking, it is likely to be higher than the SEC yield when rates are falling. When rates are rising, the opposite is true.

**The Solution**

The main problem with the distribution yield is that is often the “yield” that is reported by websites used by people who research mutual funds and ETFs, such as Yahoo! Finance and the like. As a result, many investors will incorrectly assume that they will receive a yield that can in fact be very different from the yield they will get in the future.

The solution: Go directly to the website of either the mutual fund company or the company that issues the ETF. Since these issuers are required to provide both the distribution yield and the SEC 30-day yield, you will be able to gain a much better sense of the income you can receive from the fund.