EFFECTIVE function
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EFFECTIVE
Returns the effective compounded interest rate given a nominal interest rate.
Syntax:
EFFECTIVE(nom_rate; num)
- nom_rate: the nominal interest rate.
- num: the number of times interest is credited / compounded during the period that nom_rate applies to.
- If an investment has a nominal rate, say for a year, but interest is paid and credited say each quarter, the interest paid each quarter will itself start earning interest. This increases the effective value. This function returns the effective rate - that is, the rate that would have to be paid at the end of the (say) year to give the same return.
- The formula used is:
- effective_rate = (1 + nom_rate/num)num - 1
Example:
EFFECTIVE(6%; 4)
- returns approximately 6.14%, which is the effective rate of an investment with a nominal rate of 6% per annum, compounded quarterly.
Issues:
- The calculation assumes that interest is credited at the end of exactly equal periods. In reality, different quarter-years, for example, have different numbers of days.
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