Question

Why is continuous compounding preferred in financial research?

Answer 1

Continuous Compounding

It is a mathematical tool to compute the compound interest when reinvested into bank account over an infinite period of time. It is calculated on the principal amount and the amount of interest over a number of periods and reinvested back into bank account. It is calculated monthly, semi annually or quarterly basis.

• This tool shows that the amount earns interest constantly which is added to the balance
• Perpetual gain on interest is there in continuous compounding
• The principal amount earn money and continuous compounding of interest amount will go on multiplying the amount.
• While compared to compound interest, the continuous compounding is simpler.

Though it is not possible in practice, it is an important concept in finance. It is not possible for calculation for infinite periods.