Quantitative Problem: Bank 1 lends funds at a nominal rate of 9% with payments to be made semiannually. Bank 2 requires payments to be made quarterly. If Bank 2 would like to charge the same effective annual rate as Bank 1, what nominal interest rate will they charge their customers? Do not round intermediate calculations. Round your answer to three decimal places.
Quantitative Problem: Bank 1 lends funds at a nominal rate of 9% with payments to be made semiannually. Bank 2 requires payments to be made quarterly. If Bank 2 would like to charge the same effective annual rate as Bank 1, what nominal interest rate will they charge their customers? Do not round intermediate calculations. Round your answer to three decimal places.
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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![# Time Value of Money: Comparing Interest Rates
Different compounding periods are used for different types of investments. To properly compare investments or loans with different compounding periods, we need to place them on a common basis. This requires understanding the difference between the nominal interest rate (I<sub>NOM</sub>) and the effective annual rate (EAR). The nominal interest rate is quoted by borrowers and lenders, and is also called the annual percentage rate (APR). If the compounding periods for different securities is the same, then you use the APR for comparison. If the securities have different compounding periods, then the EAR must be used for comparison.
Here, M is the number of compounding periods per year and I<sub>NOM</sub>/M is equal to the periodic rate (I<sub>PER</sub>). If a loan or investment uses annual compounding, then the nominal interest rate is also its effective annual rate. However, if compounding occurs more than once a year, EAR is greater than I<sub>NOM</sub>.
**Quantitative Problem:** Bank 1 lends funds at a nominal rate of 9% with payments to be made semiannually. Bank 2 requires payments to be made quarterly. If Bank 2 would like to charge the same effective annual rate as Bank 1, what nominal interest rate will they charge their customers? Do not round intermediate calculations. Round your answer to three decimal places.
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Transcribed Image Text:# Time Value of Money: Comparing Interest Rates
Different compounding periods are used for different types of investments. To properly compare investments or loans with different compounding periods, we need to place them on a common basis. This requires understanding the difference between the nominal interest rate (I<sub>NOM</sub>) and the effective annual rate (EAR). The nominal interest rate is quoted by borrowers and lenders, and is also called the annual percentage rate (APR). If the compounding periods for different securities is the same, then you use the APR for comparison. If the securities have different compounding periods, then the EAR must be used for comparison.
Here, M is the number of compounding periods per year and I<sub>NOM</sub>/M is equal to the periodic rate (I<sub>PER</sub>). If a loan or investment uses annual compounding, then the nominal interest rate is also its effective annual rate. However, if compounding occurs more than once a year, EAR is greater than I<sub>NOM</sub>.
**Quantitative Problem:** Bank 1 lends funds at a nominal rate of 9% with payments to be made semiannually. Bank 2 requires payments to be made quarterly. If Bank 2 would like to charge the same effective annual rate as Bank 1, what nominal interest rate will they charge their customers? Do not round intermediate calculations. Round your answer to three decimal places.
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