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Unformatted text preview: 1 TIME VALUE OF MONEY ANNUAL (NOMINAL) & EFFECTIVE INTEREST RATES 2 Annual Percentage Rate (APR) The annual rate that is quoted by law Often referred to as the NOMINAL RATE APR = period rate X # of periods per year Period rate = APR / # of periods per year 3 Computing APRs (Q) What is the APR if the monthly rate is .5%? What is the APR if the semiannual rate is 2.0%? What is the monthly rate if the APR is 12% with monthly compounding? 4 Computing APRs (A) What is the APR if the monthly rate is .5%? 0.5(12) = 6% What is the APR if the semiannual rate is 2.0%? 2.0(2) = 4% What is the monthly rate if the APR is 12% with monthly compounding? 12 / 12 = 1% 5 Effective Annual Rate (EAR) This is the actual rate paid (or received) after accounting for compounding that occurs during the year If you want to compare two alternative investments with different compounding periods, you need to compute the EAR for both investments and then compare the EARs. 6 APRs & EARs (Q 1) Suppose you can earn 1% per month on $1 invested today....
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 Spring '11
 

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