: Effective Yield for Bonds While reading up on the effective yield for bonds I noticed that it relies on the fact that the investor reinvests their coupon earnings in order to take advantage of compound interest. However,

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However, does the effective yield calculation assume that the investor is reinvesting at the same rate as the bond coupon?

No - it assumes that the investor is reinvesting coupons at the risk-equivalent yield (not coupon rate) at the time the coupon is received.

Say you buy a 3-year annual-coupon bond with a coupon of 5% but a yield of 10%. In one year you receive a coupon payment. At that time, your bond is trading at a yield of 12%. The model assumes that you can invest the coupon for the remaining two years in something that offers a 12% yield.

So the model has to incorporate future expectations of interest rates in order to predict risk-equivalent yields.