Final answer:
Annual Percentage Yield (APY) is the same as the annual rate of return on an investment, considering compound interest. APY is a more accurate representation of earnings over a year due to the compounding effect.
Step-by-step explanation:
Annual Percentage Yield (APY) is the same as the rate of return on an investment in one year, taking into account the effect of compounding interest. To calculate APY, you can use the formula:
APY = (1 + r/n)n - 1
where r is the annual interest rate and n is the number of compounding periods in one year. As an example, if an investment has an annual interest rate of 5% compounded monthly, its APY would be calculated as follows:
APY = (1 + 0.05/12)12 - 1 ≈ 0.05116 or 5.116%
This demonstrates that the APY reflects the accumulation of interest upon interest—what is commonly known as compound interest—over the course of a year. Therefore, APY provides a more accurate figure of what an investor can expect to earn, as it includes the effects of compounding.