Compound

Interest
Prepared by Group 2 NU
CASAS • MACARAMBON • PASAGUE •

PEDRONAN • RASUMAN • RUEDAS

Our lesson for today:
What is compound interest
Formula of compound interest/ future

value under compound interest (theorem

3.2.1)
Amount of compound interest (theorem

3.2.2)
Compound interest vs. simple interest
Compounding periods (theorem 3.2.3)
Continuous compounding (theorem 3.2.4)
Present value under compound interest

(theorem 3.2.5)
 Compound Interest

The compound interest on P is the amount

of interest charge to the amount P and the

interest earned on previous time periods.

 Compound Interest

Suppose you borrow P1000 in a bank. After

one year, the interest is 10% of P1000 which

is P100. Thus, the amount of loan after one

year is P1,100. On the second year, the

interest that the bank credited is 10% of the

P1,100. The amount of loan then, after two

year, will be P1,100 + 0.10(P1,100) = P1,210.

 Theorem 3.2.1
Future value under compound interest

The future value of P borrowed (or invested) at an

annual compound interest rate r at time t is given by
A(t)=P(1+r)ᵗ

A(t) future value

r rate of interest

P principal
t time
 To derive the formula for the future value under a compound interest

environment, let P be the principal borrowed (or invested) at an annual

compound interest rate r. Denote by A the future value of P.

During the first year, the amount of interest is rP. Hence, the future value is

A(1) = P + rP = P(1+r)

During the second year, the amount of interest will be rP(1+r). Hence,
A(2) = P(1+r) + rP(1+r) = P(1+r)².

If you continue the process, you will arrive at A(t)=P(1+r)ᵗ

 EXAMPLES

1. Five years ago, Anna put her savings worth ₱10,000 in

an account providing a compound interest rate of

3.5% annually. Find the values of her savings today and

the amount of interest.

A(t) = P (1 + r)ᵗ

Given: P = ₱10,000 Solution: A(t)= P(1+r)

r = 0.035 A(5)= ₱10,000 (1 + 0.035)⁵
t = 5 = ₱10,000(1.187686306)
= ₱11,876.86

The value of Anna’s savings today is ₱11,876.86.

Conclusion:
The amount of interest earned is ₱11,876.86 - ₱10,000 = ₱ 1,876.86.
 EXAMPLES

2. At what interest rate, compounded annually, must

₱10,000 be invested in order to earn an interest worth

₱2,000 in 5 years?

A(t) = P (1 + r)ᵗ

Solution: A(t)= P(1+r)ᵗ

Given: A(t) = ₱10,000 + ₱2,000 ₱12,000 = ₱10,000 (1+r)⁵
= ₱12,000 1.2 = (1+r)⁵
P = ₱10,000 1+r = ⁵√1.2
t = 5 r = ⁵√1.2 - 1
r ≈ 0.0371

Conclusion: Thus, the interest rate should be at least 3.71%

Find the future value of each of the following at a given annual rate compounded
annually and the given time:

SOLUTION:
a.) ₱1,000 at 2% after 3
years a.) A=₱1,000 (1.02)^3 =
b.) ₱2,500 at 2.75 % after 5 ₱1,061.21
years b.) A=₱2,500 (1.0275)^5 =
₱2,863.18
c.) ₱10,000 at 1% after 4
c.) A=₱10,000 (1.01)^4 =
years
₱10,406.04
 Theorem 3.2.2

The compound interest on P borrowed(or

invested) at an annual compound interest rate r
at time t is given by A-P=P[(1+R)ᵗ-1]

rate of
A amount r interest
Amount of

Compound

Interest
P principal t time
 A-P=P[(1+R)ᵗ-1]
Example A-1000=1000[(1+O.1)^4-1]
A-1000=1000[(1.1)^4-1]
A-1000=1000(0.4641)
Pablo borrowed Php 1000 with an A-1000=464.1
interest rate of 10% compounded A=464.1+1000
monthly which he borrowed from A=1,464.1
cooperative. Compute the

To get the compound interest,

compound interest he will pay in 4
A-P
months.
1,464.1-1,000
=464.1

Therefore,Pablo will pay a

compound interest of
464.1 pesos.
 Compound vs. Simple Interest

Example
Suppose you have P10,000. Divide the amount equally into two parts and
deposit each part in two different accounts— one account provides 3%
annual simple interest rate, while the other provides 3% annual compound
interest rate.

a. Express the future value of each account as a function of time t.

b. Solve for the future value for t= 1, 4, 10, and 30.
c. Sketch the graphs of the function of the future values in one place
 Compound vs. Simple Interest
a. Express the future value of each account as a function of time t.

Account 1 (Simple) Account 2 (Compound)

Given: P= 5,000 Given: P= 5,000
r= 0.03 r= 0.03

A(t) = P ( 1 + rt ) A(t) = P ( 1 + r ) ᵗ

A(t) = 5,000 (1 + 0.03t) A(t) = 5,000 ( 1 + 0.03) ᵗ

A(t) = 5,000 + 150t A(t) = 5,000 (1.03)ᵗ

 Compound vs. Simple Interest
b. Solve for the future value for t= 1, 4, 10, and 30.

Account 1 (Simple) Account 2 (Compound)

Given: P= 5,000 Given: P= 5,000
r= 0.03 r= 0.03

A(t) = 5,000 + 150t A(t) = 5,000 (1.03)ᵗ

A(1) = 5,000 + 150(1) = 5,150 A(1) = 5,000 (1.03)¹ = 5,150

A(4) = 5,000 + 150(4) = 5,600 A(4) = 5,000 (1.03)⁴ = 5,627.544
A(10) = 5,000 + 150(10) = 6,500 A(10) = 5,000 (1.03)¹⁰ = 6,719.582
A(30) = 5,000 + 150(30) = 9,500 A(30) = 5,000 (1.03)³⁰ = 12,136.312
Compound vs. Simple Interest

Account 1 (Simple)

Account 2 (Compound)
 Compound vs. Simple Interest

Simple Interest Compound Interest

Linear function of t Exponential function of t
The amount of simple interest The amount of compound
earned per unit of time stays the interest earned per unit of time
same. increases as time increases.
The principal is constant The principal varies
Auto loans, Installment loans Savings account, credit cards
Compounding Periods
Interests can be compounded more

frequently than once a year. For instance,

interest can be compounded semiannually.

In this case, there are two compounding

periods in a year. Other common

compounding periods are four times in a

year (quarterly) and twelve times a year

(monthly).
Theorem 3.2.3

The future value of P borrowed or

invested at an annual interest rate r

compounded m times a year is

A(t)=P(1+ʳ⁄ₘ)ᵐᵗ

mt amount of compounding periods in t years

Compounding

Periods
EXAMPLES

1. To have a capital for a small food business, Mang Nestor

borrowed P10,000 at 2% interest rate compounded

quarterly. How much does Mang Nestor need to pay after

2 years?

A(t)=P(1+ʳ⁄ₘ)ᵐᵗ

Solution: A(t) = P(1+ʳ⁄ₘ)ᵐᵗ

Given: P = ₱10,000 A(2) = 10,000 ( 1 + 0.02/4 )⁴*²
r = 0.02 A(2) = 10,000 ( 1 + 0.005 )⁴*²
m = 4 (quarterly) A(2) = 10,000 ( 1.005 )⁴*²
t = 2 years A(2) = 10,000 ( 1.005 )⁸
A(2) = 10,000 ( 1.04071 )
A(2) = 10,407.07

Conclusion: Therefore, Mang Nestor needs to pay P10,407.07 after 2 years.

EXAMPLES

2. Matt is saving for a new phone. He invests P5,000 into an

account that pays 3% interest a year and is compounded

monthly. How much will he have after 5 years?

A(t)=P(1+ʳ⁄ₘ)ᵐᵗ

Solution: A(t) = P(1+ʳ⁄ₘ)ᵐᵗ

Given: P = ₱5,000 A(5) = 5,000 ( 1 + 0.03/12 )¹²*⁵
r = 0.03 A(5) = 5,000 ( 1 + 0.0025 )¹²*⁵
m = 12 (compounded monthly) A(5) = 5,000(1.0025)¹²*⁵
t = 5 years A(5) = 5,000(1.0025)⁶⁰
A(5) = 5,000(1.0025)⁶⁰
A(5) = 5,000(1.161616)
A(5) = 5,808.08
Conclusion: Therefore, Matt will have P5,808.08 in his account after 5 years..
 PRACTICE QUESTIONS!

3. James is investing
4. A deposit of P2,150

P15,000 at an interest
earns 6% interest

rate of 6% compounded
compounded quarterly.

monthly. How much will

How much money is in

he have after 10 years? the bank after 6 years?

3 Given: P = ₱15,000
r = 6% or 0.06
m = 12
t = 10 years

Formula: A(t) = P(1+ʳ⁄ₘ)ᵐᵗ

Solution: A(t) = P(1+ʳ⁄ₘ)ᵐᵗ

A(10)=15,000(1+0.06/12) ¹²*¹⁰
A(10)=15,000(1+0.005) ¹²⁰
A(10)=15,000(1.005) ¹²⁰
A(10)=15,000(1.819396)
A(10)=27,290.95

Therefore, James will have an

Conclusion:
amount of P27,290.95 after 10

years.
 Given: P = ₱2,150
r = 6% or 0.06
4
m=4
t = 6 years

Formula: A(t) = P(1+ʳ⁄ₘ)ᵐᵗ

Solution: A(t) = P(1+ʳ⁄ₘ)ᵐᵗ

A(6)=2,150( 1 + 0.06/4 )⁴*⁶
A(6)=2,150( 1 + 0.015 )²⁴
A(6)=2,150( 1.015 )²⁴
A(6)=2,150( 1.4295 )
A(6)= 3,073.425

Therefore, there will be

Conclusion:
P3,073.425 after 6 years.
Continuous Compounding
If you continue increasing x, (1 + 1/x)ˣ will approach

the irrational number e ≈ 2.7182818. Thus, if you let

m increase without bound, the future value A

approaches Peʳᵗ.

The process of compounding where the number

of compounding periods without bound is called

continuous compounding.
Continuous Compounding
✅ no limit to how often interest can
✅ can occur an infinite number of times

(meaning a balance is earning interest at all

times)
✅ used to show how much a balance can earn

when interest is constantly accruing.

✅ allows investors to calculate how much they

expect to receive from an investment earning a

continuously compounding rate of interest.

✅ most relevant to financial professionals

and other specialists.

 Theorem 3.2.4

The Future Value of P compounded

continuously at an annual rate r at time t is

A(t) = Peʳᵗ.

 EXAMPLES

1. Steve invests $2,807 in a 401k account with a fixed annual

interest rate that is compounded continuously. After 13 years,

the account balance reaches $9,044.13. What is the interest

rate of the account?

A(t) = Peʳᵗ

Solution: A(t) = Peʳᵗ

$9,044.13 = $2,807e^r13
Given: P = $2,807
3.2219914499465 = e^r13
A = $9,044.13
ln(3.2219914499465) = ln(e^r13)
t = 13 years
ln(3.2219914499465) = r13
r = ln(3.2219914499465) / 13
Therefore, the interest rate of

Conclusion: r ≈ 0.0899999716233
the account where Steve

r ≈ 8.99999716233 %
invested is 9%.
r≈9%
EXAMPLES

2. What is the future value of Php2000.00 compounded

continuously at 3% interest after 4.5 years?

A(t) = Peʳᵗ

Solution: A(t) = Peʳᵗ

Given: P = P2000.00 A(4.5) = P2000e^0.03(4.5)
r = 0.03 = 5436.5636^0.135
t = 4.5 years = 2289.0735687026
≈ 2289.07

Conclusion: Therefore, the future value is 2289.07.

 PRACTICE QUESTIONS!

3. How long will it take

4. An amount of Php

for an amount to double

2340.00 is deposited in

when it is compounded
a bank paying an annual

continuously at an
interest rate of 3.1%,

annual rate of 3%? How

compounded

long will it take for the

continuously. Find the

amount to triple? balance after 3 years.

3
Given: P = constant, 2P
r = 0.03

Formula: A(t) = Peʳᵗ

Solution:

Thus, the amount will double in

Conclusion:
about 23.10 years.
3
Given: P = constant, 3P t=?
r = 0.03

Formula: A(t) = Peʳᵗ

Solution:

Thus, the amount will triple in

Conclusion:
about 36.62 years.
 Given: P = ₱2349
r = 0.031
4
t = 3 years

Formula: A(t) = Peʳᵗ

Solution:

Conclusion: The balance after 3 years is

worth Php2568.06.
Theorem 3.2.5
Present value under Compound Interest

The present value of A at an annual

a
compound interest rate r is
The present value of A at an annual interest

b
rate of r compounded m times a year is

The present value of A at an annual interest

c
rate of r compounded continuously is
 Mia invested some amount in a bank where her amount

gets compounded daily at 5% annual interest. What is

the amount invested by Mia if the amount she got after

10 years is $1,650?

Given: A = $1,650
r = 5% or 0.05 Solution:
t = 10 years

Formula:

annual compound interest rate

 After 5 years of 4% interest compounded quarterly, an

account has P61,009.502. What was the original deposit

amount?

Solution:
Given: A = P61,009.502
r = 4% or 0.04
m = 4 (compounded quarterly)
t = 5 years

Formula:

compounded m times a year

 Samu in two years would like to have $1100 in an

interest account that is providing an 8% continuously

compounded return. How much must he invest?

Solution:
Given: A = $1100
r = 8% or 0.08
t = 2 years

Formula:

compounded continuously
 Are there

any

questions?
We'd love to answer it!
Thank you!
Prepared by Group 2 NU
CASAS • MACARAMBON • PASAGUE •

PEDRONAN • RASUMAN • RUEDAS