Annual Percentage Yield (APY)
Quick Definition
The real annual return on savings or investment, accounting for compound interest — always higher than the stated APR when compounding occurs.
Key Takeaways
- APY = APR adjusted for compounding — always ≥ APR
- The more frequently interest compounds, the higher the APY relative to APR
- For savings accounts and CDs, always compare APY to APY for accurate comparison
- Formula: APY = (1 + r/n)^n − 1 where n = compounding periods per year
- Crypto "APY" can be misleading — high advertised rates often ignore token price risk
What Is Annual Percentage Yield (APY)?
Annual Percentage Yield (APY) represents the actual annual rate of return on a savings account or investment, taking compounding into account. While APR (Annual Percentage Rate) reflects the simple interest rate, APY reflects the impact of interest compounding within the year. APY is always equal to or greater than the APR — the more frequently interest compounds, the higher the APY relative to the APR.
APY Formula: APY = (1 + r/n)^n − 1
Where:
- r = stated annual interest rate (APR)
- n = number of compounding periods per year
Compounding Frequency vs. APY: If APR = 12%:
| Compounding | APY |
|---|---|
| Annually (n=1) | 12.00% |
| Quarterly (n=4) | 12.55% |
| Monthly (n=12) | 12.68% |
| Daily (n=365) | 12.75% |
Why APY Matters for Savers: For savings accounts, money market accounts, CDs, and bonds, APY tells you the actual return you will receive on your deposit — accounting for compounding. When comparing savings rates, always compare APY to APY.
Example: Bank A offers 5.00% APY monthly compounding. Bank B offers 4.95% APR daily compounding. Which is better?
- Bank B APY = (1 + 0.0495/365)^365 − 1 ≈ 5.07% — Bank B actually pays more
APY in Different Contexts:
- Savings accounts/CDs: Banks advertise APY to attract depositors — higher APY = more earnings
- Crypto staking/yield farming: APY can be astronomically high (and often unsustainable)
- Mortgages/loans: Lenders use APR (not APY) by legal requirement
- Credit cards: Use APR, though the effective cost when carrying a balance is closer to APY
APY vs. APR Summary:
| APY | APR | |
|---|---|---|
| Accounts for compounding | ✅ Yes | ❌ No |
| Used for savings | ✅ Primary | Rarely |
| Used for loans | Rarely | ✅ Primary |
| Always ≥ APR? | ✅ Yes | — |
Formula
Formula
APY = (1 + r/n)^n − 1Annual Percentage Yield (APY) Example
- 1A high-yield savings account advertises 5.00% APY with daily compounding. The daily interest rate is 5%/365 = 0.0137%. Over a year, $10,000 grows to $10,512.67 — not $10,500 as simple interest would suggest
- 2A DeFi protocol advertises 200% APY on staked tokens. At that rate, $1,000 would theoretically become $3,000 in a year — but this rate is usually unsustainable and the token value often collapses
Related Terms
Annual Percentage Rate (APR)
The yearly cost of borrowing money, expressed as a percentage, including interest and fees — the standard rate disclosed on loans and credit cards.
Compound Interest
Interest calculated on both the initial principal and accumulated interest from previous periods, creating exponential growth over time.
Simple Interest
Interest calculated only on the original principal amount, without compounding on previously earned interest — resulting in linear rather than exponential growth.
Interest Rate
The cost of borrowing money or the return earned on savings/lending, expressed as a percentage of the principal over a specific time period.
Savings Rate
The percentage of income directed toward savings and investments rather than consumption.
Dividend
A distribution of a company's profits to shareholders, typically paid quarterly in cash or additional shares.
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