Effective Yields financial definition of Effective Yields. Effective Yields finance term by the Free Online Dictionary.

Annual percentage yield (APY)

The effective, or true annual rate of return. The APY is the rate actually earned or paid in one year, taking into account the effect of compounding. The APY is calculated by taking one plus the periodic rate, raising it to the number of periods in a year and then subtracting one. For example, a 1% per month rate has an APY of 12.68% (1.01^12 -1).

Annual Percentage Yield

The yield on an investment in one year, taking into account the effects of compounding. For example, if one has a fixed-income investment such as certificate of deposit that pays 3% in interest each month, the annual percentage yield is more than 3% because compounding the interest results in a (slightly) higher return each month. In this example, the annual effective yield is calculated thus:

Annual percentage yield = (1.03)^12 - 1 = .43 = 43%, where 1.03 is 1 plus the monthly interest and 12 is the number of times in a year interest is compounded. It is also known as the annual effective yield.

Annual percentage yield (APY). Annual percentage yield is the amount you earn on an interest-bearing investment in a year, expressed as a percentage. For example, if you earn $60 on a $1,000 certificate of deposit (CD) between January 1 and December 31, your APY is 6%.

When the APY is the same as the interest rate that is being paid on an investment, you are earning simple interest. But when the APY is higher than the interest rate, the interest is being compounded, which means you are earning interest on your accumulating interest.

Annual Percentage Yield (APY)

What Does Annual Percentage Yield (APY) Mean?

The effective annual rate of return after considering the effect of compounding interest; APY assumes that funds will remain in the investment vehicle for a full 365 days and is calculated as follows:

Investopedia explains Annual Percentage Yield (APY)

APY is similar to the annual percentage rate insofar as it standardizes varying interest rate agreements into an annualized percentage number. For example, suppose you are considering whether to invest in a one-year zero-coupon bond that pays 6% at maturity or a high-yield money market account that pays 0.5% per month with monthly compounding. At first glance, the yields appear identical—12 months multiplied by 0.5% equals 6%—but when the effects of compounding are included, it can be seen that the second investment actually yields more: 6.17% (1.005^(12 - 1) = 0.0617).

Related Terms:
• Certificate of Deposit—CD
• Compound Annual Growth Rate—CAGR
• Compounding
• Money Market Account
• Yield

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