Compound Interest

Lesson 3.5

Agree or Disagree ?

• A bank account that pays 12% per year yields the same results as a bank account that pays 1% every month and compounds interest.

Nominal vs. Effective Rate

• Nominal rate The stated yearly rate "12% compounded monthly"

• Effective rate The result of the compounding 12% compounded monthly actually gives a

12.683% return on your investment

Compound Interest Formula

• Actually we saw this in the previous lesson

• Here r = the nominal rate

Then is the decimal for the effective rate

1n t

rB P

n

1n

r

n

Periodic vs. Continuous

• Note the similarities between periodic compounding

and continuous compounding

1n t

rB P

n

k tB Pe

Periodic vs. Continuous

• The k in the continuous model will always be similar or close to the r value in the periodic compounding model

• Generally r must be slightly larger because there are "less" compounding periods per year

• Example Convert B = P e .05t to periodic Convert 7.25% compounded monthly to

continuous form

Assignment

• Lesson 3.5

• Page 139

• 1 – 21 odd