Question

11. Nonannual compounding period Aa Aa The number of compounding periods in one year is called compounding frequency. The compounding frequency affects both the present and future values of cash flows. An investor can invest money with a particular bank and earn a stated interest rate of 13.20%; however, interest will be compounded quarterly. What are the nominal, periodic, and effective interest rates for this investment opportunity? Interest Rates Nominal rate Periodic rate Effective annual rate 13.20% 3.30% 3.66% Rahul needs a loan and is speaking to several lending agencies about the interest rates they would charge and the terms they offer. He particularly likes his local bank because he is being offered a nominal rate of 12%. But the bank is compounding quarterly. What is the effective interest rate that Rahul would pay for the loan? o 12.410% 12.551% 9 12.67296 o 12.429%

Answer 1

Since the compounding is being done quarterly, this means that the interest on the interest will start getting paid every quarter.

Hence, Effective Annual rate = (1+12%/4)^4-1 = 12.55%