Annual percentage yield – APY

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What is the Annual percentage yield – APY’

The annual percentage yield (APY) is the effective annual rate of return taking into account the effect of compound interest. UPS is calculated as follows:

The resulting percentage assumes that funds will remain in the investment vehicle for a full 365 days.

Annual penetration ‘percentage yield – APY’

For UPS is very similar to the annual percentage rate (Apr), which is used for loans, not investments, and States the total cost of credit, including commissions, as a single percentage number. Both standard measures of interest rates, although unlike the APR, the equations for UPS does not consider fees, it is only compounding periods. Its usefulness lies in its ability to standardize various interest rate agreements in annual interest.

Rate UPS and return

In the investment case, the rate of return is simply the amount by which the investment grows over a period of time, expressed as a percentage of the initial investment amount. The yield can be difficult to compare different investment funds, especially when such machines feature different periods. For example, one investment tool compound interest monthly, others compound quarterly, every six months another and finally, one compound interest only once a year.

Comparing these rates of return by simply recalculating every cent of the cost in one year gives inaccurate result as it does not include the effect of compounding interest. The shorter the compounding period, the faster the investment grows, as at the end of each compounding period, interest for the period is added to the principal balance and future interest is charged on the larger.

UPS standartisied each rate of profit not only by presenting within one year, but by adjusting the rate of return to implement a one-year compounding period.

Calculation of the UPS

For example, suppose you are considering whether to invest in one-year zero coupon bond that pays 6% at the end of term or high-yield money market account that pays 0.5% per month with monthly compounding.

At first glance, gives equal to 12 months multiplied by 0.5% equals 6%. However, when the effects of compounding are included of the calculation of the APY, the second investment actually yields 6.17%, and (1 + .005)^12 – 1 = 0.0617.

Investments with an interest rate of 6% divided by 365, with interest compounded daily, carries an even higher UPS. This is because the principal balance on which interest is increasing every day, not once a month or once a year.

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