Which of the following bank accounts has the highest effective annual return?
A) An account that pays 8% nominal interest with monthly compounding.
B) An account that pays 8% nominal interest with annual compounding.
C) An account that pays 7% nominal interest with daily (365-day)compounding.
D) An account that pays 7% nominal interest with monthly compounding.
E) An account that pays 8% nominal interest with daily (365-day)compounding.

Question

Quizplus · Accepted Answer

By inspection,we can see that e dominates a and b,and that c dominates d because,with the same interest rate,the account with the most frequent compounding has the highest EFF%.Thus,the correct answer must be either e or c.Moreover,we can see by inspection that since c and e have the same compounding frequency yet e has the higher nominal rate,e must have the higher EFF%.You could also prove that e is the correct choice by calculating the EFF%s: a.8.300% = (1 + 0.08/12)^12-1 b.8.000% = (1 + 0.08/1)^1-1 c.7.250% = (1 + 0.07/365)^365-1 d.7.229% = (1 + 0.07/12)^12-1 e.8.328% = (1 + 0.08/365)^365-1

Which of the Following Bank Accounts Has the Highest Effective