Pound Interest

Compound interest Compound interest formula
BUSINESS MATHEMATICS
COMPOUND INTEREST
R. Chandrashekar Business Mathematics

Compound Interest
Definition
Calculated based on the original principal and interest.

Compound Interest
Definition
Example:
RM 1000 is invested for three years. Find the interest received at
the end of the three years if the investment earns 8% compounded
annually.

Compound Interest
Definition
Example:
annually.
Solution:
Principle = RM 1000

Compound Interest
Definition
Example:
annually.
Solution:
Principle = RM 1000
Interest for 1st year = RM 1000 × 0.08 × 1 = RM 80

End of 1st year = RM 1000 + RM 80 = RM 1080


Interest for 2nd year = RM 1080 × 0.08 × 1 = RM 86.40


End of 2nd year = RM 1080 + RM 86.40 = RM 1166.40



Interest for 3rd year = RM 1166.40 × 0.08 × 1 = RM 93.31



End of 3rd year = RM 1166.40 + RM 93.31 = RM 1259.71



Compound interest earned = RM 1259.71 − RM 1000



Compound interest earned = RM 1259.71 − RM 1000

= RM 259.71

Some important terms
Example:
Suppose RM 9000 is invested for seven years at 12% compounded
quarterly.

Example:
quarterly.
Original principal, P
Original amount invested.

Example:
quarterly.
P = RM 9000.

Example:
quarterly.
P = RM 9000.
Annual nominal interest rate, k

Interest rate for a year together with the frequency.

Example:
quarterly.
P = RM 9000.
Annual nominal interest rate, k

Interest rate for a year together with the frequency.
k = 12% compounded quarterly, i.e. interest is calculated four
times a year. (twice a year = compounded semi-annually.)

Example:
quarterly.

Example:
quarterly.
Interest period
Length of time in which interest is calculated.

Example:
quarterly.
Interest period
Interest period = 3 months

Example:
quarterly.
Interest period
Frequency of conversions, m
Number of times interest is calculated in a year.

Example:
quarterly.
Interest period
Frequency of conversions, m
Number of times interest is calculated in a year.
m = 4 (every 3 months)

Example:
quarterly.

Example:
quarterly.
Periodic interest rate, i

Interest rate for each interest period.

Example:
quarterly.

k 12%
i= = = 3%
m 4

Example:
quarterly.

k 12%
i= = = 3%
m 4
Number of interest periods in the investment period, n
Number of times interest is calculated.
n = mt
where
m = frequency of conversions, t = investment period in years

Example:
quarterly.

k 12%
i= = = 3%
m 4
Number of interest periods in the investment period, n
Number of times interest is calculated.
n = mt
where
m = frequency of conversions, t = investment period in years
n = 4 × 7 = 28
Compound interest formula
Let,
P = Original principal
i = Periodic interest rate
n = Number of interest periods in the investment period
S = Future value (compound amount) after n interest periods
then
Formula
S = P (1 + i)n

Example:
Find the future value of RM 1000 which was invested for
a) 4 years at 4% compounded annually.
Solution:
S = RM 1000(1 + 4%)4 = RM 1169.86

Example:
Solution:
S = RM 1000(1 + 4%)4 = RM 1169.86
b) 5 years 6 months at 14% compounded semi-annually.

Solution:
11
14%
S = RM 1000 1 + 2 = RM 2104.85

Example:
Solution:
S = RM 1000(1 + 4%)4 = RM 1169.86
b) 5 years 6 months at 14% compounded semi-annually.

Solution:
11
14%
S = RM 1000 1 + 2 = RM 2104.85
c) 2 years 3 months at 4% compounded quarterly.

Solution:
9
4%
S = RM 1000 1 + 4 = RM 1093.69

d) 5 years 7 months at 5% compounded monthly.

Solution:
5% 67
S = RM 1000(1 + 12 ) = RM 1321.26


Solution:
5% 67
S = RM 1000(1 + 12 ) = RM 1321.26
e) 2 years 8 months at 9% compounded every 2 months.

Solution:
16
9%
S = RM 1000 1 + 6 = RM 1268.99


Solution:
5% 67
S = RM 1000(1 + 12 ) = RM 1321.26
e) 2 years 8 months at 9% compounded every 2 months.

Solution:
16
9%
S = RM 1000 1 + 6 = RM 1268.99
f) 250 days at 10% compounded daily.

Solution:
250
10%
S = RM 1000 1 + 360 = RM 1071.90

Example:
RM 9000 is invested for 7 years 3 months. This investment is
offered 12% compounded monthly for the first 4 years and 12%
compounded quarterly for the rest of the period. Calculate the
future value of this investment.
Solution:
Amount of investment at the end of 4 years,
S4 = P (1 + i)n
12% 48

= 9000 1 +
12
= RM 14510.03

Amount of investment at the end of 7 14 years,
S7 1 = P (1 + i)n
4
12% 13

= 14510.03 1 +
4
= RM 21308.48

Example:
Lolita saved RM 5000 in a saving account which pays 12% interest
compounded monthly. Eight months later she saved another
RM 5000. Find the amount in the account two years after her first
saving.
Solution:
24
12% 16

12%
Amount = RM 5000 1 + + RM 5000 1 +
12 12
= RM 12211.57

Example:
What is the nominal rate compounded monthly that will make
RM 1000 become RM 2, 000 in five years?
Solution:
60
k
RM 2000 = RM 1000 1 +
12
60
k
2= 1+
12
k
21/60 = 1 +
12
k = 13.94%

Example:
How long does it take a sum of money to double itself at 14%
compounded annually?
Solution:
Original principal = W
Sum after n years = 2W
2W = W (1 + 14%)n
2 = (1 + 14%)n
log 2 = n log(1.14)
n = 5.29 years

Pound Interest

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Compound interest Compound interest formula

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

End of 1st year = RM 1000 + RM 80 = RM 1080

R. Chandrashekar Business Mathematics

End of 1st year = RM 1000 + RM 80 = RM 1080

R. Chandrashekar Business Mathematics

End of 1st year = RM 1000 + RM 80 = RM 1080

End of 2nd year = RM 1080 + RM 86.40 = RM 1166.40

R. Chandrashekar Business Mathematics

End of 1st year = RM 1000 + RM 80 = RM 1080

End of 2nd year = RM 1080 + RM 86.40 = RM 1166.40

R. Chandrashekar Business Mathematics

End of 1st year = RM 1000 + RM 80 = RM 1080

End of 2nd year = RM 1080 + RM 86.40 = RM 1166.40

End of 3rd year = RM 1166.40 + RM 93.31 = RM 1259.71

R. Chandrashekar Business Mathematics

End of 1st year = RM 1000 + RM 80 = RM 1080

End of 2nd year = RM 1080 + RM 86.40 = RM 1166.40

End of 3rd year = RM 1166.40 + RM 93.31 = RM 1259.71

Compound interest earned = RM 1259.71 − RM 1000

R. Chandrashekar Business Mathematics

End of 1st year = RM 1000 + RM 80 = RM 1080

End of 2nd year = RM 1080 + RM 86.40 = RM 1166.40

End of 3rd year = RM 1166.40 + RM 93.31 = RM 1259.71

Compound interest earned = RM 1259.71 − RM 1000

R. Chandrashekar Business Mathematics

Some important terms

R. Chandrashekar Business Mathematics

Some important terms

R. Chandrashekar Business Mathematics

Some important terms

R. Chandrashekar Business Mathematics

Some important terms

Annual nominal interest rate, k

R. Chandrashekar Business Mathematics

Some important terms

Annual nominal interest rate, k

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

Periodic interest rate, i

R. Chandrashekar Business Mathematics

Periodic interest rate, i

R. Chandrashekar Business Mathematics

Periodic interest rate, i

R. Chandrashekar Business Mathematics

Periodic interest rate, i

Compound interest formula

R. Chandrashekar Business Mathematics

R. Chandrashekar Business Mathematics

b) 5 years 6 months at 14% compounded semi-annually.

R. Chandrashekar Business Mathematics

b) 5 years 6 months at 14% compounded semi-annually.

c) 2 years 3 months at 4% compounded quarterly.