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**Unformatted text preview: **inal annual rate (i 0.08) when interest is compounded (1) annually (m 1);
(2) semiannually (m 2); and (3) quarterly (m 4). Substituting these values into
Equation 4.21, we get
1. For annual compounding:
EAR 1 0.08
1 1 1 (1 0.08)1 1 1 0.08 1 0.08 8% CHAPTER 4 159 Time Value of Money 2. For semiannual compounding:
EAR 1 0.08
2 2 1 (1 0.04)2 1 1.0816 1 0.0816 8.16% 0.02)4 1 1.0824 1 0.0824 8.24% 3. For quarterly compounding:
EAR 1 0.08
4 4 1 (1 These values demonstrate two important points: The first is that nominal and
effective annual rates are equivalent for annual compounding. The second is that
the effective annual rate increases with increasing compounding frequency, up to
a limit that occurs with continuous compounding.11 annual percentage rate (APR)
The nominal annual rate of
interest, found by multiplying the
periodic rate by the number of
periods in 1 year, that must be
disclosed to consumers on credit
cards and loans as a result of
“truth-in-lending laws.”
annual percentage yield (APY)
The effective annual rate of
interest that must be disclosed to
consumers by banks on their
saving...

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