Final answer:
The bond yield is the rate of return expected from a bond, and it changes due to market conditions contrary to the fixed coupon rate. Interest rates affect the bond's price and yield, thus investor preferences for different maturities and investment horizons shape the yield curve.
Step-by-step explanation:
The bond yield is a critical concept in finance, representing the expected rate of return for an investor who purchases a bond. When investors buy bond securities, they are essentially lending money to the issuer, such as a corporation or government, which in turn promises to repay the principal amount on the maturity date along with periodic interest payments known as coupons. The yield is determined by the bond's price, coupon rate, and its life, along with prevailing market interest rates.
It's important to understand that the interest rate printed on a bond certificate, typically reflecting the coupon rate, is not always equal to the bond's yield. Market conditions, including changes in interest rates, inflation, and the issuer's credit risk, can affect a bond's price over its lifetime, thus modifying its yield. For example, if interest rates decrease, existing bonds with higher coupon rates become more valuable, leading to an increase in price and a decrease in yield until it aligns with the new market rates.
Regarding the upward slope of yield curves and market segmentation, it indicates that investors typically demand higher returns for longer-term bonds, which carry more risk due to uncertainties over a longer time frame. Similarly, these curves also reflect investor preferences, where short-term bonds might be more desirable due to lower interest rates and perceived lower risk, affecting demand and prices.