摘要

When you are researching decentralized finance (DeFi) products, you may have come across APY and APR. Although these two terms sound very similar, they are actually different.

Annual percentage yield (APY) includes quarterly, monthly, weekly or daily compounding, while annual percentage rate (APR) does not take compounding into account. This distinction, while simple, can have a significant impact on earnings calculations over time. Therefore, it is important to understand how these two metrics are calculated and how they affect the returns you earn from your digital funds.

APR and APY

Both APR and APY are the basis of personal finance. Next, we start by introducing you to the relatively simple term Annual Percentage Rate (APR). APR is the interest rate that a lender earns on its funds over a one-year period and is the interest rate that a borrower pays for using that funds over a one-year period.

For example, if you deposit $10,000 into a bank savings account at a 20% APR, you will earn $2,000 in interest after one year. Interest is calculated as: principal ($10,000) multiplied by APR (20%). Therefore, after one year, your principal and interest will be $12,000. After two years, your principal and interest will be $14,000. After three years, your principal and interest will be $16,000, and so on.

Before introducing annual yield (APY), we first understand what compound interest is. Simply put, compound interest refers to earning interest on previous interest. In the example above, if the financial institution paid interest on your account each month, your account balance would be different each month of the year.

Instead of getting a lump sum of $12,000 at the end of month 12, you'll receive some interest each month. The interest received each month is added to the principal of your deposit, so the total amount of money you have to earn interest will increase each month. That is, the principal you use to earn interest will increase month by month. This effect is called the compound interest effect.

Let's say you deposit $10,000 into a bank account at 20% APR, compounded monthly. Skip the complicated math and you'll have $12,429 after one year. This means that the compounding effect can help you earn an additional $429 in interest. Let's say you deposit $10,000 into a bank account at the same 20% APR, but compound interest on a daily basis. In this case, you would have $12,452 after one year.

The longer the interest period, the more amazing the power of compound interest. Assume you also deposit $10,000 into a bank account at a 20% APR, with interest compounded daily, but extend the interest accrual period from one year to three years, and you will end up with $19,309. Compared with the 20% APR product that does not consider compound interest, this method can earn $3,309 more in interest.

Thanks to the compound interest effect, you can earn more from the same amount of money. Also note that the amount of interest varies depending on how often interest is compounded. The more frequently compound interest occurs, the more money you earn. For example, compounding daily can earn you more interest than compounding monthly.

When a financial product offers compound interest, how do you calculate your return? This is where the Annual Percentage Yield (APY) comes in handy. You can use a formula to convert APR to APY based on the frequency of compounding. For example, an APR of 20% compounded monthly is equivalent to an APY of 21.94%. The 20% APR compounded on a daily basis is equivalent to 22.13% APY. These APY numbers represent the annualized interest rate return you can earn after accounting for compound interest.

In summary, APR is a simpler, more static metric and is therefore always quoted as a fixed annual interest rate. The annual yield APY includes the interest earned on interest, which is compound interest. The amount of interest varies depending on the frequency of compounding. Here's how you can remember the difference: The Y in APY stands for "yield," which is five letters, compared to the R in APR, which stands for "rate." Additionally, , compared to "ratio", "yield" represents a more complex concept (yield is also relatively higher).

How do you compare different interest rates?

From the above example, we can see that the compound interest effect can bring more interest income. Different products may present their rates in the form of APR or APY. Given this difference, when you compare different products, be sure to use the same terminology, otherwise they may not be comparable.

A product with a higher APY will not necessarily generate more interest than a product with a lower APR. If you know how often interest is compounded, you can easily convert APR and APY using online tools.

The same is true when comparing DeFi and other types of cryptocurrency products. When looking at products that may be advertised using cryptocurrency APY and APR (like cryptocurrency savings and staking, etc.), make sure to convert them into the same term so they are comparable.

Additionally, if two DeFi products present yields in the form of APY, when you compare them, make sure they compound at the same frequency. This is because even if two products have the same APR, if one product compounds monthly and the other compounds daily, the product compounding daily may earn you more cryptocurrency interest.

Also, you need to be aware of what APY really means in relation to the specific cryptocurrency product you are looking at. Some product collateral uses the term “APY” to represent the cryptocurrency rewards that investors can earn within a specific time frame, rather than in any actual or predicted return/yield expressed in fiat currency. It is important that you distinguish this important distinction carefully because cryptocurrency asset prices may fluctuate and the value of your investment (in fiat currency) may fall as well as rise. If cryptocurrency asset prices decline significantly, the value of your investment (in fiat currency) may still be less than your initial fiat currency investment amount, even if you continue to earn cryptocurrency asset APY. Therefore, you must carefully read the relevant product terms and conditions and conduct your own research to fully understand the investment risks involved in this product and what the APY really means in this specific scenario.

Summarize

APR and APY can be easily confused at first, however, you can easily differentiate between the two simply by remembering that the annual percentage rate of return (APY) metric takes compound interest into account and is more complex. Due to the compound interest effect of APY, when the frequency of compound interest is higher than once a year, APY is always higher than APR. At the end of the day, when you're calculating the interest you'll earn, always make sure you're looking at the correct interest rate.

Disclaimer and risk warning: The contents of this article are facts and are for general information and educational purposes only and do not constitute any representation or warranty. This article should not be construed as financial advice and is not recommending that you purchase any specific product or service. For more information, please click here to read our full disclaimer. Digital asset prices may fluctuate. The value of your investment may fall as well as rise and you may not get back the principal invested. You are solely responsible for your own investment decisions and Binance is not responsible for any losses you may suffer. None of the above constitutes financial advice. For more information, please see our Terms of Use and Risk Warning.