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AER Equation:
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The Annual Equivalent Rate (AER) represents the actual annual interest rate when compounding is taken into account. It shows the true return on savings or investments, accounting for how often interest is added to the principal.
The calculator uses the AER equation:
Where:
Explanation: The formula calculates the effective annual rate by considering how interest compounds over multiple periods within a year, providing a more accurate representation of actual returns.
Details: AER is crucial for comparing different savings accounts and investment products, as it standardizes interest rates across different compounding frequencies, allowing for fair comparisons.
Tips: Enter the nominal interest rate as a percentage (e.g., 5 for 5%), and the number of compounding periods per year (e.g., 12 for monthly, 4 for quarterly, 1 for annual). All values must be valid (rate ≥ 0, periods ≥ 1).
Q1: What's the difference between AER and APR?
A: AER is used for savings and investments to show the effective return, while APR is used for loans and credit to show the total cost of borrowing including fees.
Q2: Why is AER higher than the nominal rate?
A: AER accounts for compound interest - when interest is added more frequently, you earn interest on previously earned interest, resulting in a higher effective rate.
Q3: How does compounding frequency affect AER?
A: More frequent compounding (daily vs monthly vs annually) results in a higher AER for the same nominal rate, as interest is calculated and added more often.
Q4: Is AER the same as effective annual rate?
A: Yes, AER and Effective Annual Rate (EAR) are essentially the same concept - both represent the actual annual return accounting for compounding.
Q5: When should I use AER for comparisons?
A: Always use AER when comparing savings accounts or investments with different compounding frequencies, as it provides a standardized measure of true annual returns.