##### Future Value and Present Value - Discussion

 Mathematics Tutor: None Selected Time limit: 1 Day

Compound Interest Value

Question 1:

Explain which of the two options below results in a lower balance after 6 months on an investment of \$6,000.

• Annual simple interest of 12% applied at the end of 6 months.
• A monthly interest rate of 1% applied at the end of each month and before the start of the next month. (Compound interest at 12% per year, compounded monthly.)

Discuss why the two methods result in different results.

In what circumstances might you select one option over another?

Sep 24th, 2015

a) Simple Interest = Principal (\$6000) * Time (0.5 years) * Rate of interest (0.12) = \$360

b) Let n = no. of times interest is compounded per year = 12 (as it is compounded monthly)

Compount Interest = Principal* (1 + Rate/n)^n*t - Principal

= 6000(1 + 0.12/12) ^ 12*0.5 - 6000

= 6000(1.01)^6 - 6000 = 6369.12 - 6000 = \$369.12

Therefore, simple interest method yields lower amount at the end of 6 months.

The two methods differ in how the interest is calculated as illustrated by the above formulas. If one is investing for a longer period of time, compound interest yields higher returns.

Sep 24th, 2015

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Sep 24th, 2015
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Sep 24th, 2015
Dec 9th, 2016
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