For in GOD we live, and move, and have our being.
- Acts 17:28
The Joy of a Teacher is the Success of his Students.
- Samuel Dominic Chukwuemeka
I greet you this day,
First: read the notes. Second: view the videos. Third: solve the questions/solved examples.
Fourth: check your solutions with my thoroughly-explained solutions. Fifth: check your answers with my calculators.
I wrote the codes for the calculators using JavaScript, a client-side scripting language. Please use the latest Internet browsers. The calculators should work.
Comments, ideas, areas of improvement, questions, and constructive criticisms are welcome. You may contact me.
If you are my student, please do not contact me here. Contact me via the school's system. Thank you for visiting!!!
Samuel Dominic Chukwuemeka (Samdom For Peace) B.Eng., A.A.T, M.Ed., M.S
Students will:
(1.) Discuss the topic of simple interest.
(2.) Solve applied problems involving simple interest.
(3.) Discuss the topic of compound interest.
(4.) Solve applied problems involving compound interest.
(5.) Discuss the topic of continuous compound interest.
(6.) Solve applied problems involving continuous compound interest.
(7.) Discuss the topic of annual percentage yield.
(8.) Solve applied problems involving annual percentage yield.
(9.) Discuss several investments for retirement.
(10.) Discuss the topic of ordinary annuity.
(11.) Solve applied problems involving ordinary annuity.
(12.) Discuss the topic of annuity due.
(13.) Solve applied problems involving annuity due.
(14.) Discuss the topic of amortization.
(15.) Solve applied problems involving amortization.
(16.) Discuss the topic of sinking fund.
(17.) Solve applied problems involving sinking fund.
(18.) Discuss the rule of $78$.
(19.) Solve applied problems involving the rule of $78$.
(20.) Discuss the buying of a car in the United States.
(21.) Discuss the buying of a home in the United States.
(1.) Use of prior knowledge
(2.) Critical Thinking
(3.) Interdisciplinary connections/applications
(4.) Technology
(5.) Active participation through direct questioning
(6.) Research
$ (1.)\:\: SI = Prt \\[3ex] (2.)\:\: SI = A - P \\[3ex] (3.)\:\: P = \dfrac{SI}{rt} \\[5ex] (4.)\:\: t = \dfrac{SI}{Pr} \\[5ex] (5.)\:\: r = \dfrac{SI}{Pt} \\[5ex] (6.)\:\: A = P + SI \\[3ex] (7.)\:\: A = P(1 + rt) \\[3ex] (8.)\:\: P = \dfrac{A}{1 + rt} \\[5ex] (9.)\:\: t = \dfrac{SI}{Pr} \\[5ex] (10.)\:\: t = \dfrac{A - P}{Pr} \\[5ex] (11.)\:\: r = \dfrac{A - P}{Pt} \\[5ex] (12.)\:\: SI = \dfrac{Art}{1 + rt} $
$
(1.)\:\: A = P\left(1 + \dfrac{r}{m}\right)^{mt} \\[7ex]
(2.)\:\: P = \dfrac{A}{\left(1 + \dfrac{r}{m}\right)^{mt}} \\[10ex]
(3.)\:\: r = m\left[\left(\dfrac{A}{P}\right)^{\dfrac{1}{mt}} - 1\right] \\[10ex]
(4.)\:\: r = m\left(10^{\dfrac{\log\left(\dfrac{A}{P}\right)}{mt}} - 1\right) \\[10ex]
(5.)\:\: t = \dfrac{\log\left(\dfrac{A}{P}\right)}{m\log\left(1 + \dfrac{r}{m}\right)} \\[7ex]
(6.)\:\: A = P + CI \\[3ex]
(7.)\:\: CI = A - P \\[3ex]
(8.)\:\: A = P(1 + i)^n \\[4ex]
(9.)\:\: P = \dfrac{A}{(1 + i)^n} \\[7ex]
(10.)\:\: i = \dfrac{r}{m} \\[5ex]
(11.)\:\: n = mt \\[3ex]
$
Future Value (Amount) of Cash Flows (Principal) for Several Years
$
(12.)\:\:At\:\:the\:\:end\:\:of\:\:each\:\:year:\:\: FV = PV\left(1 + \dfrac{r}{m}\right)^{m(last\:\:year - that\:\:year)} \\[7ex]
(13.)\:\: Total\:FV = \Sigma FV
$
Values of $m$
If Compounded: | $m = $ |
---|---|
Annually |
$1$ ($1$ time per year) Also means every twelve months |
Semiannually |
$2$ ($2$ times per year) Also means every six months |
Quarterly |
$4$ ($4$ times per year) Also means every three months |
Monthly |
$12$ ($12$ times per year) Also means every month |
Weekly | $52$ ($52$ times per year) |
Daily (Ordinary/Banker's Rule) | $360$ ($360$ times per year) |
Daily (Exact) | $365$ ($365$ times per year) |
$ (1.)\:\: A = Pe^{rt} \\[4ex] (2.)\:\: P = \dfrac{A}{e^{rt}} \\[7ex] (3.)\:\: t = \dfrac{\ln \left(\dfrac{A}{P}\right)}{r} \\[7ex] (4.)\:\: r = \dfrac{\ln \left(\dfrac{A}{P}\right)}{t} $
$ (1.)\:\: APY = \left(1 + \dfrac{r}{m}\right)^m - 1 \\[7ex] (2.)\:\: r = m\left[(APY + 1)^{\dfrac{1}{m}} - 1\right] \\[7ex] (3.)\:\: r = m\left(\sqrt[m]{APY + 1} - 1\right) $
$ (1.)\:\: APY = e^r - 1 \\[4ex] (2.)\:\: r = \ln(APY + 1) $
$ (1.)\:\: FV = m * PMT * \left[\dfrac{\left(1 + \dfrac{r}{m}\right)^{mt} - 1}{r}\right] \\[10ex] (2.)\:\: t = \dfrac{\log\left[\dfrac{r * FV}{m * PMT} + 1\right]}{m * \log\left(1 + \dfrac{r}{m}\right)} \\[10ex] (3.)\:\: Total\:\:PMTs = PMT * m * t \\[3ex] (4.)\:\: CI = FV - Total\:\:PMTs \\[5ex] (5.)\:\: FV = PMT * \left[\dfrac{(1 + i)^n - 1}{i}\right] \\[7ex] (6.)\:\: n = \dfrac{\log\left[\dfrac{i * FV}{PMT} + 1\right]}{\log(1 + i)} \\[10ex] (7.)\:\: s_{n\i} = \dfrac{m}{r} * \left[\left(1 + \dfrac{r}{m}\right)^{mt} - 1\right] \\[7ex] (8.)\:\: s_{n\i} = \dfrac{(1 + i)^n - 1}{i} \\[5ex] (9.)\:\: FV = PMT * s_{n\i} \\[3ex] (10.)\:\: i = \dfrac{r}{m} \\[5ex] (11.)\:\: n = mt \\[3ex] (12.)\:\: Annual\:\:Fuel\:\:Expense = \dfrac{Annual\:\:Miles\:\:Driven}{Miles\:\:per\:\:Gallon} * Price\:\:per\:\:Gallon $
$ (1.)\:\: PMT = \dfrac{r * FV}{m * \left[\left(1 + \dfrac{r}{m}\right)^{mt} - 1\right]} \\[10ex] (2.)\:\: t = \dfrac{\log\left[\dfrac{r * FV}{m * PMT} + 1\right]}{m * \log\left(1 + \dfrac{r}{m}\right)} \\[10ex] (3.)\:\: Total\:\:PMTs = PMT * m * t \\[3ex] (4.)\:\: CI = FV - Total\:\:PMTs \\[3ex] (5.)\:\: PMT = \dfrac{i * FV}{(1 + i)^n - 1} \\[7ex] (6.)\:\: n = \dfrac{\log\left[\dfrac{i * FV + PMT}{PMT}\right]}{\log(1 + i)} \\[10ex] (7.)\:\: s_{n\i} = \dfrac{m}{r} * \left[\left(1 + \dfrac{r}{m}\right)^{mt} - 1\right] \\[7ex] (8.)\:\: s_{n\i} = \dfrac{(1 + i)^n - 1}{i} \\[5ex] (9.)\:\: i = \dfrac{r}{m} \\[5ex] (10.)\:\: n = mt $
$ (1.)\:\: PV = m * PMT * \left[\dfrac{1 - \left(1 + \dfrac{r}{m}\right)^{-mt}}{r}\right] \\[10ex] (2.)\:\: t = -\dfrac{\log\left[1 - \dfrac{r * PV}{m * PMT}\right]}{m * \log\left(1 + \dfrac{r}{m}\right)} \\[10ex] (3.)\:\: PV = PMT * \left[\dfrac{1 - (1 + i)^{-n}}{i}\right] \\[7ex] (4.)\:\: n = \dfrac{\log \left[\dfrac{PMT}{PMT - i * PV}\right]}{\log(1 + i)} \\[10ex] (5.)\:\: a_{n\i} = \dfrac{m}{r} * \left[1 - \left(1 + \dfrac{r}{m}\right)^{-mt}\right] \\[7ex] (6.)\:\: a_{n\i} = \dfrac{1 - (1 + i)^{-n}}{i} \\[5ex] (7.)\:\: PV = PMT * a_{n\i} \\[3ex] (8.)\:\: i = \dfrac{r}{m} \\[5ex] (9.)\:\: n = mt \\[3ex] (10.)\:\: Total\:\:PMTs = PMT * m * t \\[3ex] (11.)\:\: CI = Total\:\:PMTs - PV $
$ (1.)\:\: PMT = \dfrac{PV}{m} * \left[\dfrac{r}{1 - \left(1 + \dfrac{r}{m}\right)^{-mt}}\right] \\[10ex] (2.)\:\: t = -\dfrac{\log\left[1 - \dfrac{r * PV}{m * PMT}\right]}{m * \log\left(1 + \dfrac{r}{m}\right)} \\[10ex] (3.)\:\: PMT = \dfrac{i * PV}{1 - (1 + i)^{-n}} \\[7ex] (4.)\:\: n = \dfrac{\log \left[\dfrac{PMT}{PMT - i * PV}\right]}{\log(1 + i)} \\[10ex] (5.)\:\: i = \dfrac{r}{m} \\[5ex] (6.)\:\: n = mt \\[3ex] (7.)\:\: Payoff = PMT * n * \left[\dfrac{1 - \left(1 + \dfrac{r}{n}\right)^{-k}}{r}\right] \\[10ex] (8.)\:\: Total\:\:PMTs = PMT * m * t \\[3ex] (9.)\:\: CI = Total\:\:PMTs - PV \\[3ex] (10.)\:\: CI = PMT * m * t - PV \\[3ex] (11.)\:\: Number\:\:of\:\:payments = m * t \\[3ex] (12.)\:\: Down\:\:Payment = Given\:\:Rate * Purchase\:\:Price \\[3ex] (13.)\:\: Amount\:\:of\:\:Mortgage = Purchase\:\:Price - Down\:\:Payment \\[3ex] (14.)\:\: Payment\:\:for\:\:x\:\:points\:\:at\:closing = x\:\:as\:\:\% * Amount\:\:of\:\:Mortgage $
$ (1.)\:\: FV = m * PMT * \left[\dfrac{\left(1 + \dfrac{r}{m}\right)^{mt} - 1}{r}\right] * \left(1 + \dfrac{r}{m}\right) \\[10ex] (2.)\:\: PMT = \dfrac{r * FV}{(m + r) * \left[\left(1 + \dfrac{r}{m}\right)^{mt} - 1\right]} \\[10ex] (3.)\:\: t = \dfrac{\log\left[\dfrac{r * FV}{PMT(m + r)} + 1\right]}{m * \log\left(1 + \dfrac{r}{m}\right)} \\[10ex] (4.)\:\: Total\:\:PMTs = PMT * m * t \\[3ex] (5.)\:\: CI = FV - Total\:\:PMTs \\[3ex] (6.)\:\: FV = PMT * \left[\dfrac{(1 + i)^n - 1}{i}\right] * (1 + i) \\[7ex] (7.)\:\: PMT = \dfrac{i * FV}{(1 + i)\left[(1 + i)^n - 1\right]} \\[7ex] (8.)\:\: n = \dfrac{\log\left[\dfrac{i * FV}{PMT(1 + i)} + 1\right]}{\log(1 + i)} \\[10ex] (9.)\:\: i = \dfrac{r}{m} \\[5ex] (10.)\:\: n = mt \\[3ex] (11.)\:\: CFV = P\left(1 + \dfrac{r}{m}\right)^{mt} + m * PMT * \left[\dfrac{\left(1 + \dfrac{r}{m}\right)^{mt} - 1}{r}\right] * \left(1 + \dfrac{r}{m}\right) \\[10ex] (12.)\:\: t = \dfrac{\log\left[\dfrac{rCFV + PMT(m + r)}{rP + PMT(m + r)}\right]}{m\log\left(1 + \dfrac{r}{m}\right)} $
$ \underline{Monthly} \\[3ex] (1.)\:\: UI = \dfrac{TI * k * (k + 1)}{n(n + 1)} \\[5ex] (2.)\:\: TP = n * PMT \\[3ex] (3.)\:\: TI = TP - LA \\[3ex] (4.)\:\: RF = \dfrac{UI}{TI} \\[5ex] (5.)\:\: RF = \dfrac{sum\:\:of\:\:digits\:\:for\:\:up\:\:to\:\:k}{sum\:\:of\:\:digits\:\:for\:\:up\:\:to\:\:n} \\[5ex] (6.)\:\: LAR = LA * RF \\[3ex] (7.)\:\: UI = TI * RF $
$ (1.)\:\: CP = \dfrac{CR * FV}{m} \\[7ex] (2.)\:\: YTM = \left(\dfrac{FV}{BP}\right)^{\dfrac{1}{t}} - 1 \\[7ex] (3.)\:\: BP = \dfrac{FV}{(YTM + 1)^t} \\[7ex] (4.)\:\: FV = BP * (YTM + 1)^t \\[5ex] (5.)\:\: t = \dfrac{\log\left(\dfrac{FV}{BP}\right)}{\log(YTM + 1)} $
$ (1.)\:\: CP = \dfrac{CR * FV}{m} \\[5ex] (2.)\:\: BP = \dfrac{FV * CR}{YTM} * \left[1 - \dfrac{1}{\left(1 + \dfrac{YTM}{m}\right)^{mt}}\right] + \dfrac{FV}{\left(1 + \dfrac{YTM}{m}\right)^{mt}} \\[10ex] (3.)\:\: YTM \approx \dfrac{m * t * CP + FV - BP}{t(FV + BP)} \\[7ex] (4.)\:\: Annualized\:\:YTM \approx \dfrac{2(m * t * CP + FV - BP)}{t(FV + BP)} \\[7ex] (5.)\:\: YTM \approx \dfrac{t * CR * FV + FV - BP}{t(FV + BP)} \\[7ex] (6.)\:\: Annualized\:\:YTM \approx \dfrac{2(t * CR * FV + FV - BP)}{t(FV + BP)} \\[7ex] $
Discuss savings account.
Discuss the importance and benefits of credit unions over banks.
Use these "personal experience" examples and others as time demands:
(1.) Alabama Teachers Credit Union
(2.) Wells Fargo
Simple Interest is a topic discussed in Financial Mathematics, Finite Mathematics, Business Mathematics,
Financial Management, and other finance/business classes.
Say you:
Wanted to begin to save some money OR to set aside some money for a "rainy day"
Opened a savings account with a credit union or financial institution
Deposited some money in that savings account
That initial sum of money you deposited is known as a Principal or Principal sum of money
or Investment
The credit union or financial institution uses your money for financial transactions including loans to
individuals and businesses among others
That money you deposited (Principal) is supposed to give you an "extra" money over a certain period of time.
That "extra" money you get over a period of time due to the initial money you deposited is known as
Simple Interest or Dividend or Yield or Return
As someone taught by Mr. C (this is my advice; you are encouraged to think for yourselves and decide for yourselves); you should:
Look for credit unions with free savings accounts - no conditions except the one-time $\$25.00$ membership
fee (which is refunded to you upon closing the account)
Look for credit union(s) with "okay" interest rates on savings accounts.
Small interest is better than no interest.
Again, no conditions except the membership fee.
Look for credit union(s) with free checking accounts. Absolutely no conditions except the membership fee.
Look for credit union(s) with "okay" interest rates on checking accounts.
This may have some conditions, but it should be fair conditions that you can meet without worries.
Regardless of any conditions for receiving an interest on the checking account, there should definitely
be no penalty whatsoever.
Say someone deposited:
an initial sum of money, $P$ in dollars, naira, yen, etc.
into a financial institution that gives an interest rate, $r$ in percent
then, after some time, $t$ in years
the person will earn a simple interest, $SI$ in dollars, naira, yen, etc.
where the $Simple\:\:Interest = Principal * rate * time$
The total amount the person receives will now be the sum of the principal and the simple interest earned.
$Amount = Principal + Simple\:\:Interest$
OR
Say someone borrowed:
an initial sum of money, $P$ in dollars, naira, yen, etc.
from a financial institution that charges an interest rate, $r$ in percent
then, after some time, $t$ in years
the person will owe a simple interest, $SI$ in dollars, naira, yen, etc.
where the $Simple\:\:Interest = Principal * rate * time$
The total amount the person will pay back will now be the sum of the principal and the simple interest earned.
$Amount = Principal + Simple\:\:Interest$
The Principal is defined as the initial sum of money deposited in a financial institution for the purpose of earning an interest OR
the initial sum of money borrowed from a financial institution for the purpose of paying an interest.
It is also known as Investment
Write down all the formulas that you see under Simple Interest and let us solve some examples
To explain "Compound Interest", let us begin by observing the two cases: Case 1 and Case 2 and the two tables: Table 1 and Table 2
Case $1$
Say, you deposited an initial sum of money, $1000.00$ in a financial institution that has an interest
rate of $10\%$; how much would you have after $3$ years?
$Year$ | $P(\$)$ | $r(\%)$ | $t(years)$ | $SI(\$)$ | $A(\$)$ |
---|---|---|---|---|---|
$1$ | $1000$ | $0.1$ | $1$ | $100$ | $1100$ |
$2$ | $1000$ | $0.1$ | $1$ | $100$ | $1200$ |
$3$ | $1000$ | $0.1$ | $1$ | $100$ | $1300$ |
Interest after $3$ years = $100 + 100 + 100 = \$300$
Amount after $3$ years = $\$1300$
Teacher: Is this familiar to you - what we just did?
Student: Why would you do it by using a Table?
It is much easier to use the Simple Interest Formula!
Teacher: That is correct. However, observe the second table - Table $2$.
I want to teach you something 😊
Case $2$
Say, you deposited an initial sum of money, $1000.00$ in a financial institution that has an interest
rate of $10\%$ compounded once (one time) per year; how much would you have after $3$ years?
$Year$ | $P(\$)$ | $r(\%)$ | $t(years)$ | $CI(\$)$ | $A(\$)$ |
---|---|---|---|---|---|
$1$ | $1000$ | $0.1$ | $1$ | $100$ | $1100$ |
$2$ | $1100$ | $0.1$ | $1$ | $110$ | $1210$ |
$3$ | $1210$ | $0.1$ | $1$ | $121$ | $1331$ |
Interest after $3$ years = $100 + 110 + 121 = \$331$
Amount after $3$ years = $\$1331$
Teacher: What did you notice?
Student: The interest is $\$331$, $\$31$ greater than the interest in Table $1$
Teacher: Correct!
What else?
Student: The amount in Table $2$ is also greater than the amount in Table $1$ by $\$31$
Teacher: That is right.
Is that all?
This takes us...
Compound Interest
Due to the insatiability/greed of humans, humans prefer their interest to be compounded.
It is the tendency of every human to always "want more".
As we strive to want more, let us always remember: $Mark\: 8:36$
Compound Interest is the interest compounded on a principal sum of money over a period of time.
It is simply the interest on principal plus interest.
In the example we just did, (Table $2$), the interest was compounded every year.
In other words, the interest was compounded "annually" or "yearly"
In other words, the interest was compounded "once every year"
If the interest is compounded annually, it is compounded once ($1$) time a year
If the interest is compounded semiannually, it is compounded twice ($2$) times a year
If the interest is compounded quarterly, it is compounded four ($4$) times a year
If the interest is compounded monthly, it is compounded twelve ($12$) times a year
If the interest is compounded weekly, it is compounded fifty two ($52$) times a year
If the interest is compounded ordinary daily, it is compounded three hundred and sixty ($360$) times a year
If the interest is compounded exact daily, it is compounded three hundred and sixty five ($365$) times a year
Student: What if we want to compound it $1000$ times a year, what is called?
Teacher: We can. But, these are the standard compounding periods.
We can compound it as many times as you want per year.
Student: Which interest is greater - compounding the same amount annually versus semiannually?
Teacher: You are asking great questions.
What do you think?
Student: I think compounding it semiannually will give more interest than compounding it annually
Teacher: You are correct.
Student: So, I guess some people or most people would want it to be compounded a million times a year.
Is there any limit on how many times you can compound in a year?
Teacher: Great question!
We shall answer that question when we do Continuous Compound Interest
As you see,
There is a difference between "daily - ordinary (ordinary days)" and "daily - exact (exact days)" in a year.
Daily - Ordinary is $360$ days in a year.
It is also known as Banker's Rule.
It is taken as a year consisting of $12$ months in which each month consists of $30$ days.
Exact - Ordinary is $365$ days in a year.
Teacher: Rather than using Table $2$, is there any way we could have calculated the compound interest
and the compound amount?
What if we wanted to compound annually for a period of $30$ years?
Student: That would be a "yuge" table
Teacher: LOL...
So, yes, we can do it another way.
Student: Is is a simpler way?
Teacher: Of course. Algebraically - by Formula
The Compound Amount Formula is:
$A = P\left(1 + \dfrac{r}{m}\right)^{mt} \\[5ex]$
Say someone:
deposited an initial sum of money, $P$
in a financial institution that gives an interest rate of $r\%$,
compounded $m$ times per year;
then, after $t$ years,
the person will earn an amount, $A$
OR
Say someone:
borrowed an initial sum of money, $P$
from a financial institution that charges an interest rate of $r\%$,
compounded $m$ times per year;
then, after $t$ years,
the person will pay back an amount, $A$
Write down all the formulas that you see under Compound Interest and let us solve some examples
Teacher: Now, we can get to your question.
Student: Yes...
I would like to know if there is a limit to how much money one can earn.
I mean...who would want his/her money to be compounded annually when he/she makes more money
when the same amount of money is compounded semiannually?
Say you deposit $\$1$ in a financial institution that has an annual interest rate of $100\%$ for $1$ year.
Let us calculate the Amount for several options of times: annually, semiannually, quarterly, monthly,
weekly, ordinary-daily, exact-daily, and several times per year.
We want to see how much you would get for each option of time for that same principal of $\$1$ for that
same time of $1$ year.
Recall the Compound Amount Formula:
$
A = P\left(1 + \dfrac{r}{m}\right)^{mt} \\[5ex]
P = \$1 \\[3ex]
r = 100\% = \dfrac{100}{100} = 1 \\[5ex]
t = 1\:\: year \\[3ex]
$
Let us calculate and observe. 😊
Compounded: | $m$ | $A$ |
---|---|---|
Annually | $1$ | $$ A = 1 * \left(1 + \dfrac{1}{1}\right)^{1 * 1} \\[5ex] A = 1(1 + 1)^1 \\[3ex] A = 1(2)^1 \\[3ex] A = 1(2) \\[3ex] A = \$2.00 $$ |
Semiannually | $2$ | $$ A = 1 * \left(1 + \dfrac{1}{2}\right)^{2 * 1} \\[5ex] A = 1(1 + 0.5)^2 \\[3ex] A = 1(1.5)^2 \\[3ex] A = 1(2.25) \\[3ex] A = \$2.25 $$ |
Quarterly | $4$ | $$ A = 1 * \left(1 + \dfrac{1}{4}\right)^{4 * 1} \\[5ex] A = 1(1 + 0.25)^4 \\[3ex] A = 1(1.25)^4 \\[3ex] A = 1(2.44140625) \\[3ex] A = \$2.44 $$ |
Monthly | $12$ | $$ A = 1 * \left(1 + \dfrac{1}{12}\right)^{12 * 1} \\[5ex] A = 1(1 + 0.0833333333)^{12} \\[3ex] A = 1(1.0833333333)^{12} \\[3ex] A = 1(2.61303529) \\[3ex] A = \$2.61 $$ |
Weekly | $52$ | $$ A = 1 * \left(1 + \dfrac{1}{52}\right)^{52 * 1} \\[5ex] A = 1(1 + 0.0192307692)^{52} \\[3ex] A = 1(1.019230769)^{52} \\[3ex] A = 1(2.692596954) \\[3ex] A = \$2.69 $$ |
Daily - Ordinary | $360$ | $$ A = 1 * \left(1 + \dfrac{1}{360}\right)^{360 * 1} \\[5ex] A = 1(1 + 0.0027777778)^{360} \\[3ex] A = 1(1.002777778)^{360} \\[3ex] A = 1(2.714516025) \\[3ex] A = \$2.71 $$ |
Daily - Exact | $365$ | $$ A = 1 * \left(1 + \dfrac{1}{365}\right)^{365 * 1} \\[5ex] A = 1(1 + 0.002739726)^{365} \\[3ex] A = 1(1.002739726)^{365} \\[3ex] A = 1(2.714567482) \\[3ex] A = \$2.71 $$ |
$500$ times per year | $500$ | $$ A = 1 * \left(1 + \dfrac{1}{500}\right)^{500 * 1} \\[5ex] A = 1(1 + 0.002)^{500} \\[3ex] A = 1(1.002)^{500} \\[3ex] A = 1(2.715568521) \\[3ex] A = \$2.72 $$ |
$1,000$ times per year | $1,000$ | $$ A = 1 * \left(1 + \dfrac{1}{1000}\right)^{1000 * 1} \\[5ex] A = 1(1 + 0.001)^{1000} \\[3ex] A = 1(1.001)^{1000} \\[3ex] A = 1(2.716923932) \\[3ex] A = \$2.72 $$ |
$10,000$ times per year | $10,000$ | $$ A = 1 * \left(1 + \dfrac{1}{10000}\right)^{10000 * 1} \\[5ex] A = 1(1 + 0.0001)^{10000} \\[3ex] A = 1(1.0001)^{10000} \\[3ex] A = 1(2.718145927) \\[3ex] A = \$2.72 $$ |
$100,000$ times per year | $100,000$ | $$ A = 1 * \left(1 + \dfrac{1}{100000}\right)^{100000 * 1} \\[5ex] A = 1(1 + 0.00001)^{100000} \\[3ex] A = 1(1.00001)^{100000} \\[3ex] A = 1(2.718268237) \\[3ex] A = \$2.72 $$ |
$1,000,000$ times per year | $1,000,000$ | $$ A = 1 * \left(1 + \dfrac{1}{1000000}\right)^{1000000 * 1} \\[5ex] A = 1(1 + 0.000001)^{1000000} \\[3ex] A = 1(1.000001)^{1000000} \\[3ex] A = 1(2.718280469) \\[3ex] A = \$2.72 $$ |
$10,000,000$ times per year | $10,000,000$ | $$ A = 1 * \left(1 + \dfrac{1}{10000000}\right)^{10000000 * 1} \\[5ex] A = 1(1 + 0.0000001)^{10000000} \\[3ex] A = 1(1.0000001)^{10000000} \\[3ex] A = 1(2.718281693) \\[3ex] A = \$2.72 $$ |
Teacher: Did you notice anything?
Student: THANK GOD for cents ($2$ decimal places)
Teacher: Exactly!
Imagine if money was not rounded to $2$ decimal places
Student: It would continue...and...continue...and...continue...
Teacher: That is right.
What did you notice?
Student: The final amount is $\$2.72$
Would it continue that way even if you compound it a trillion times per year?
Teacher: Yes, it would still give an amount of $\$2.72$
So, no matter how many times you compound $\$1$ in $1$ year,
Student: The amount at the end of $1$ year would be $\$2.72$
Teacher: and the compound interest would be ...
Student: $2.72 - 1.00 = \$1.72$
Teacher: Correct!
Did you notice any constant in the last four that we did: from $m = 10,000$ up to to $m = 10,000,000$?
Student: Yes, the first four digits is: 2.718
Observation:
The amount from when we compounded $\$1$ (a dollar), $10,000$ (ten thousand) times up to when we
compounded it $10,000,000$ (ten million) times in $1$ year, the first four digits were constant.
The amount was approximately $2.718$
This constant is known as the Euler number, by Leonhard Euler (a Swiss mathematician) OR
Napier's constant, John Napier (a Scottish/English mathematician).
Teacher: To be honest, any one of you could have discovered this constant.
You have learned what they discovered.
Now, think and work towards discovering your own.
Let me show you this constant in your calculator.
The constant is denoted by $e$
$e \approx 2.718$
The logarithm to base, $e$ is known as Natural Logarithm or Napierian Logarithm
The logarithm to base $e$ of $x$ is written as: $\log_e{x}$ or $\ln{x}$
Write down all the formulas that you see under Continuous Compound Interest and let us solve some examples
Teacher: Everyone would want a compounded interest rate. Right?
Student: To be honest, I would want a continuous compounded interest rate.
Teacher: That is right. It is still compounded though 😊
So, how do we solve this problem?
Would there be any need for simple interest rate?
Student: I guess not.
Teacher: So, how about finding a simple interest rate that would give the same compound
amount in one year as if we used the compound interest compounded annually?
Student: May you please elaborate?
Teacher: Let us review this example:
Say Mr. C deposits $\$1000$ in a financial institution that gives an interest rate of $7\%$.
How much will be in his account after $1$ year?
Student:
$
P = \$1000 \\[3ex]
r = 7\% = 0.07 \\[3ex]
t = 1\:year \\[3ex]
SI = 1000(0.07)(1) = \$70 \\[3ex]
A = 1000 + 70 = \$1070 \\[3ex]
Mr.\:C\:\:will\:\:have\:\:\$1070\:\:after\:\:1\:year \\[3ex]
$
Teacher: That is correct!
Say Mr. C deposits $\$1000$ in a financial institution that gives an interest rate of $7\%$.
How much will be in his account after $1$ year if the interest rate is compounded annually?
Student:
$
P = \$1000 \\[3ex]
r = 7\% = 0.07 \\[3ex]
t = 1\:year \\[3ex]
m = 1...compounded\:\:annually \\[3ex]
A = P\left(1 + \dfrac{r}{m}\right)^{mt} \\[5ex]
mt = 1(1) = 1 \\[3ex]
\dfrac{r}{1} = \dfrac{0.07}{1} = 0.07 \\[5ex]
A = 1000(1 + 0.07)^1 \\[5ex]
A = 1000(1.07)^1 \\[3ex]
A = 1000(1.07) \\[3ex]
A = \$1070 \\[3ex]
Mr.\:C\:\:will\:\:have\:\:\$1070\:\:after\:\:1\:year \\[3ex]
It\:\:is\:\:the\:\:same\:\:amount\:\:after\:\:1\:\:year \\[3ex]
$
Teacher: That is correct!
Teacher: So, the question is this.
Can we find a simple interest rate that will give $\$1070$ in one year?
In other words, can we find a simple interest rate that will give that compound amount of
$\$1070$ in one year?
Student: Well, we did already.
That simple interest rate of $7\%$ gave the same amount of $\$1070$ after one year.
Teacher: That is correct... in this case.
The simple interest rate that will give the same compound amount after one year is known as the
Annual Percentage Yield for Compound Interest
Annual Percentage Yield is also known as APY
Student: Do we have the Annual Percentage Yield for Continuous Compound Interest as well?
Teacher: Yes, we do!
How would you define it?
Student: I guess it will be the simple interest rate that will give the same continuous
compound amount after one year.
Teacher: Correct!
Let us find out.
Say Mr. C deposits $\$1000$ in a financial institution that gives an interest rate of $7\%$.
How much will be in his account after $1$ year if the interest rate is continously compounded?
Student:
$
P = \$1000 \\[3ex]
r = 7\% = 0.07 \\[3ex]
t = 1\:year \\[3ex]
A = Pe^{rt} \\[3ex]
rt = 0.07(1) = 0.07 \\[3ex]
A = 1000 * e^{0.07} \\[5ex]
A = 1000(1.07250818) \\[3ex]
A = 1072.50818 \\[3ex]
A \approx \$1072.51 \\[3ex]
Mr.\:C\:\:will\:\:have\:\:\$1072.51\:\:after\:\:1\:year \\[3ex]
$
Teacher: That is correct!
The simple interest rate of $7\%$ will not work this time.
This means that it is not the APY for the Continuous Compound Interest
Student: How do we find that APY?
Just to be sure, how do we find the simple interest rate that will give $\$1072.51$ after one year?
Teacher: Try the simple interest rate of $7.2508\%$
Say Mr. C deposits $\$1000$ in a financial institution that gives an interest rate of $7.2508\%$.
How much will be in his account after $1$ year?
Student:
$
P = \$1000 \\[3ex]
r = 7.2508\% = 0.072508 \\[3ex]
t = 1\:year \\[3ex]
SI = 1000(0.072508)(1) = \$72.08 \\[3ex]
A = 1000 + 72.08 = \$1072.08 \\[3ex]
Mr.\:C\:\:will\:\:have\:\:\$1072.08\:\:after\:\:1\:year \\[3ex]
$
It is almost the same...just a few cents difference
It seems you gave me a rounded value, Sir.
But, you asked not not to round.
Teacher: You are right. It is a rounded value.
You are right. I asked you not to round, if I did not ask you to round. 😊
Here, try this value...the simple interest rate of $7.25081813\%$
Student:
$
P = \$1000 \\[3ex]
r = 7.25081813\% = 0.0725081813 \\[3ex]
t = 1\:year \\[3ex]
SI = 1000(0.0725081813)(1) = \$72.5081813 \\[3ex]
A = 1000 + 72.5081813 = \$1072.50818 \\[3ex]
Mr.\:C\:\:will\:\:have\:\:\$1072.51\:\:after\:\:1\:year \\[3ex]
$
How did you get that rate? This is interesting!
Teacher: Yes it is! Welcome to APY!!!
The Annual Percentage Yield is also known as APY or Effective Interest Rate or
Effective Rate or True Interest Rate
The Annual Percentage Yield for Compound Interest is defined as the simple interest rate that will
yield the same amount as the compound amount after one year.
Let us derive the formula.
This means that:
Amount at Simple Interest after one year is equal to Amount at Compound Interest after one year.
$
\underline{Simple\:\:Interest} \\[3ex]
A = P(1 + rt) \\[3ex]
After\:\:1\:\:year \rightarrow t = 1\:year \\[3ex]
A = P(1 + r * 1) \\[3ex]
A = P(1 + r) \\[3ex]
\underline{Compound\:\:Interest} \\[3ex]
A = P\left(1 + \dfrac{r}{m}\right)^{mt} \\[5ex]
After\:\:1\:\:year \rightarrow t = 1\:year \\[3ex]
A = P\left(1 + \dfrac{r}{m}\right)^{m * 1} \\[5ex]
A = P\left(1 + \dfrac{r}{m}\right)^{m} \\[5ex]
Equate\:\:both\:\:amounts \\[3ex]
A = A \\[3ex]
P(1 + r) = P\left(1 + \dfrac{r}{m}\right)^{m} \\[5ex]
But\:\:the\:\:r\:\:in\:\:Simple\:\:Interest = APY \\[3ex]
P(1 + APY) = P\left(1 + \dfrac{r}{m}\right)^{m} \\[5ex]
Divide\:\:both\:\:sides\:\:by\:\:P \\[3ex]
1 + APY = \left(1 + \dfrac{r}{m}\right)^{m} \\[5ex]
Subtract\:\:1\:\:from\:\:both\:\:sides \\[3ex]
\therefore APY = \left(1 + \dfrac{r}{m}\right)^{m} - 1 \\[5ex]
This\:\:is\:\:the\:\:APY\:\:for\:\:Compound\:\:Interest
$
The Annual Percentage Yield for Continuous Compound Interest is defined as the simple interest rate that will
yield the same amount as the continuous compound amount after one year.
Let us derive the formula.
This means that:
Amount at Simple Interest after one year is equal to Amount at Continuous Compound Interest after one year.
$
\underline{Simple\:\:Interest} \\[3ex]
A = P(1 + rt) \\[3ex]
After\:\:1\:\:year \rightarrow t = 1\:year \\[3ex]
A = P(1 + r * 1) \\[3ex]
A = P(1 + r) \\[3ex]
\underline{Continuous Compound\:\:Interest} \\[3ex]
A = Pe^{rt} \\[3ex]
After\:\:1\:\:year \rightarrow t = 1\:year \\[3ex]
A = Pe^{r * 1} \\[3ex]
A = Pe^r \\[3ex]
Equate\:\:both\:\:amounts \\[3ex]
A = A \\[3ex]
P(1 + r) = Pe^r \\[3ex]
But\:\:the\:\:r\:\:in\:\:Simple\:\:Interest = APY \\[3ex]
P(1 + APY) = e^r \\[3ex]
Divide\:\:both\:\:sides\:\:by\:\:P \\[3ex]
1 + APY = e^r \\[3ex]
Subtract\:\:1\:\:from\:\:both\:\:sides \\[3ex]
\therefore APY = e^r - 1 \\[5ex]
This\:\:is\:\:the\:\:APY\:\:for\:\:Continuous\:\:Compound\:\:Interest
$
Write down all the formulas that you see under Annual Percentage Yield and let us solve some examples
An annuity is defined as a sequence of equal periodic payments.
If the payments are made at the end of each period, it is known as an ordinary annuity
If the payments are made at the beginning of each period, it is known as an annuity due
An Ordinary Annuity is a sequence of equal periodic payments in which each payment is made at the end of each period.
The periods could be yearly, monthly (most common), biweekly (also common), and weekly among others.
The Future Value of an Ordinary Annuity is the sum of all the periodic payments and
all the earned interests.
Applications of the Future Value of an Ordinary Annuity are seen in: college savings accounts, IRAs (Individual Retirement Accounts),
401(k), 403(b), and other investments that require periodic payments.
For example: If someone is contributing a certain percentage of his salary or a certain amount of his
salary every month to a 401(k) investment account, how much would the person have when he retires at
a certain age, or when he stops contributing after some time?
Write down all the formulas that you see under Future Value of Ordinary Annuity and Sinking Fund and let us solve some examples
An installment loan is a loan or money that is borrowed and agreed to be
paid back in installments.
Typically, equal periodic payments are made over the term of the loan (duration of the loan).
The periodic payments could be weekly payments, bi-weekly payments, monthly payments, or some other
periodic payments as the case may be.
Installment loans allow consumers to finance high price purchases of some things that they would
otherwise not be able to afford immediately. These include cars and homes among others.
Amortization is defined as the repayment of a loan by installments.
In the United States, most installment loans are based on monthly payments, and the interest on those
loans is compounded on a monthly basis.
Write down all the formulas that you see under Amortization and the Present Value of Ordinary Annuity and let us solve some examples
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