Question

You have $10,000 that you can deposit in any of three savings accounts for a 3- year period. Bank A compounds interest on an annual basis, Bank B compounds interest twice a year, and Bank C compounds interest on a monthly basis. All three banks have a stated annual interest rate of 4%. Calculate the amount that you would have at the end of the third year, leaving all interest paid on deposit, in each bank. On the basis of your findings above, which bank should you deal with? Give your reason.

Answer 1

Future Value = Present Value**[(1+Interest Rate)^Number of Periods]

Accordingly,

FV in Bank A = 10000*[(1+0.04)^3] = 10000*1.124864 = $11248.64

FV in Bank B = 10000*[(1+0.02)^6] = 10000*1.1261624 = $11261.62

FV in Bank C = 10000*[(1+0.003333)^36] = 10000*1.12727187 = $11272.72

Amount should be deposited in Bank C as it has HIGHEST Future Value. This Highest Future Value is because INTEREST IS COMPOUNDED MAXIMUM NUMBER OF TIMES IN A YEAR, resulting in Higher INTEREST EARNED ON INTEREST.