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Key Financial Market Concepts, 2nd Edition by Bob Steiner

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Equivalent Rate, Effective Rate and Continuously Compounded Rate

Definition

An equivalent interest rate is the rate which achieves the same total proceeds as another given interest rate (the nominal rate), but assuming a different frequency of compounding.

An effective interest rate is an equivalent interest rate, where the frequency of compounding is annual (i.e. 365 days).

A continuously compounded interest rate is an equivalent rate, where the frequency of compounding is infinite (i.e. the period of compounding is infinitesimally short).

How are they used?

Nominal rates, equivalent rates and effective rates

Suppose bank A quotes 10% per annum (the nominal rate) for a 9-month (270 days) deposit, with all the interest paid at the end of 9 ...

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