Finance
Interest megaConverter #23
INFORMATION
PAGE
Introduction and
Overview
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Financial calculations rely on the concept of
interest payments and reinvestment. Interest
varies with market forces and economic policies
of governments. The investor wants high interest
rates. The borrower wants low interest rates.
Many simple investments have rates that can
fluctuate dramatically from year to year. Many
investment strategies attempt to smooth out these
fluctuations by investing in fixed interest
vehicles like bonds and mortgages. Other
strategies, like mutual funds, create an
artificial rate of return by buying and selling
investments to provide a return greater than the
normal interest rates.
This converter assumes a consistent rate like
bonds and mortgages. Many people who invest for
long term return rely on stable investments so
they don’t need to worry about the effects
of economic downturn. If this is what you invest
in, you can use this converter to determine what
you need to invest, when you need to invest it,
so that you will wind up with the value you need
in the future.
For more information on interest and finance
see any college accounting or economics book.
* Much of our written history still refers to
things in common units. The Bible does not refer
to meters or kilograms, but to cubits and stadia,
or shekels and drachma. Wouldn't it be nice to
know what they were talking about way back then?
Now you can use megaConverter! For a more
complete listing of ancient, foreign, and
obsolete measures, download our
'megaSpreadsheet' of conversions in MS Excel
format.
Glossary
of Conversions:
Payments
Per Term
If you can only afford to pay this
amount in monthly payments, what can you afford
to borrow today, or if you contribute this amount
to your children’s college fund, how much
will you have when they actually go to college.
Present Value
This is what your investment today
will be worth in the future, or if you take a
loan of this size, what will your annual payments
be in order to pay this off in so many years.
Future Value
If you need this amount when you
retire, what will you need to invest today to get
it, or if you know what your child’s college
tuition will be when they get that old, how much
will you need to set aside each year.
Nominal Interest
This is the simple, term interest,
calculated as a percent of the amount, with no
compounding. The term can be any length, but the
interest rate is only for the term. As an
example, if the annual rate of interest is 6%,
the monthly rate is 0.5%. $100 borrowed for one
month would have a repayment of 100*(1+.005) or
$100.50. If the annual rate were 18%, the monthly
rate would be 1.5% and the repayment after one
month would be 100*(1+.015) or $101.50. If you
kept the money for a year the repayment would be
100*(1+.18) or $118. Click the radio button by
the input field to use this interest type in your
calculations.
Quarterly Compounding
If the interest you pay or receive is
calculated and paid out every fourth of the term
(such as every three months for an annual term),
the effective annual interest is greater than the
nominal interest. If you borrow $100 for a year
at 18% compounded quarterly, the repayment is
calculated as 100*(1+.18/4)* (1+.18/4)*
(1+.18/4)* (1+.18/4) or $119.25, which is more
than the rate at simple interest. To make the
converter work right, you would enter 18 in the
nominal interest field and then click the radio
button next to "Cmpd Quarterly". The
"% Effective Interest" value is the
rate value that would give you the same return if
it were the nominal rate.
Daily Compounding
If the interest you pay or receive is
calculated and paid out every day of an annual
term investment or loan, the effective annual
interest is greater than the nominal interest. If
you borrow $100 for 2 years at 18% compounded
quarterly, the repayment is calculated as
100*(1+.18/365)^{(365*2)} or $143.32,
which is quite a bit more than the rate at simple
interest. To make the converter work right, you
would enter 18 in the nominal interest field and
then click the radio button next to "Cmpd
Daily". The "% Effective Interest"
value is the rate value that would give you the
same return if it were the nominal rate.
Continuous Compounding
In many cases the interest you pay or
receive is calculated and paid out continuously
throughout the investment or loan, and the
effective annual interest is greater than the
nominal interest. If you borrow $100 for 2 years
at 18% compounded continuously, the repayment is
calculated as 100*e^{(.18*2)} or $143.33,
which is quite a bit more than the rate at simple
interest. To make the converter work right, you
would enter 18 in the nominal interest field and
then click the radio button next to "Cmpd
Continuously". The "% Effective
Interest" value is the rate value that would
give you the same return if it were the nominal
rate. You might note that this value is very
close to the daily rate. Continuous compounding
starts to make a significant difference at very
high interest rates, but is intended mostly as a
bookkeeping aid for investments that change hands
rapidly.
Note: Because of roundoff
errors, converting from very large units to very
small units or viceversa may not be accurate (or
practical). Conversion factors can be found by
converting a quantity of 1 unit to another unit
several steps above or below the first. You may
need to string several conversion factors
together to find the factor from a very large
unit to a very small unit, and then you can use a
calculator with sufficient digits to find your
answer.
