Module 5
Mathematics
in Finance
Write the following percent in
decimal form
1) 8% 6) 5.5%
2) 10% 7) 10.5%
3) 5% 8) 35%
4) 15% 9) 9.23%
5) 50% 10) 1.03%
Write the following percent in decimal form
Answers:
1) 8% = 0.08 6) 5.5% = 0.055
2) 10% = 0.10 7) 10.5% = 0.105
3) 5% = 0.05 8) 35% = 0.35
4) 15% = 0.15 9) 9.23% = 0.0923
5) 50% = 0.50 10) 1.03% = 0.0103
SIMPLE AND
COMPOUND
INTEREST
Have you tried of
having business or
do your family run a
business?
Who among of
you have loans
or tried of
this before?
According to Kya et. al. 2009, investors want high returns
on their investments. They invest in stock markets hoping to
get good returns. Investments in terms of savings in banks
give lower returns as the risk is lower. Most people obtain
loans to buy houses, machinery and cars. Of course, we would
look for the cheapest loans available in the market.
Nowadays, loans are of different product mix and a good
understanding of the concept of interest are required to
choose the cheapest loans.
INTEREST
The word interest
originates from the Latin
word intereo, which means
“to be lost”.
INTEREST CAN BE DEFINED
IN TWO WAYS:
1)Interest is money earned
when money is invested.
2)Interest is charged
incurred when a loan or
credit is obtained.
Interest (unless
stated otherwise) is
usually expressed as
percent per annum.
There are two types
of interest:
1)Simple interest
2)Compound interest
SIMPLE
INTEREST
SIMPLE INTEREST
Simple interest is a method
to calculate the amount of
interest charged on a sum at
a given rate and for a given
period of time.
SIMPLE INTEREST
In simple interest, the
principal amount is always
the same unlike compound
interest where we add the
interest to the principal to
find the principal for the
new principal for the next
year.
This may be stated as the
formula
I = P r t
where:
I = simple interest
P = principal
r = rate of simple interest
t = time or term in years
EXAMPLE 1
P1, 000 is invested for two
years in a bank, earning a
simple interest rate of 8% per
annum. Find the simple interest
earned.
EXAMPLE 1
Solve for the simple interest:
Given:
I = ?
P = 1,000
r = 8% or 0.08
t = 2 years
Solution:
I=Prt
I = (1,000)(0.08)(2)
I = 160
Answer:
Thus, the simple interest is
P160.00.
Simple Amount Formula
The simple amount is the sum of the
original principal and the interest
earned. The simple amount formula is
given as
S = original principal + interest earned
S = P + Prt
S = P(1 + rt) where S = simple amount
EXAMPLE 2
P5, 000 is invested for three
years in a bank, earning a
simple interest rate of 10%
per annum. Find the simple
interest earned and the simple
amount at the end of the
period.
EXAMPLE 2
Solve for the simple interest:
Given:
I = ?
P = 5,000
r = 10% or 0.10
t = 3 years
Solution:
I=Prt
I = (5,000)(0.10)(3)
I = 1500
Answer:
Thus, the simple interest is
P1,500.00.
EXAMPLE 2
Solve for the simple amount:
Given:
I = ?
P = 5,000
r = 10% or 0.10
t = 3 years
Solution:
S = P(1 + r t)
S = 5,000 [1 + (0.10)(3)]
S = 5,000 (1 + 0.3)
S = (5,000)(1.3)
S = 6,500
Answer:
Thus, the simple amount is
P6500.00.
EXAMPLE 3
When Kevin bought a new
phone, he borrowed P12,000
at an annual rate of 10% for
6 months. How much interest
did he pay?
EXAMPLE 3
Solve for the simple interest:
Given:
I = ?
P = 12,000
r = 10% or 0.10 (annual rate)
t = 6 months or 6/12
Solution:
I=Prt
I = (12,000)(0.10)(0.5)
I = 600
Answer:
Thus, the simple interest is
P600.00.
EXAMPLE 4
P10, 000 is invested for 4
years and 9 months in a
bank earning a simple
interest rate of 10% per
annum. Find the simple
amount at the end of the
investment period.
EXAMPLE 4
Solve for the simple amount:
Given:
I = ?
P = 10,000
r = 10% or 0.10 (annual rate)
t = 4 years and 9 months or
57 months or
57/12
Solution:
S = P(1 + r t)
S = 10,000 [1 + (0.10)(57/12)]
S = 10,000 (1 + 0.475)
S = (10,000)(1.475)
S = 14,750
Answer:
Thus, the simple amount is
P14,750.00.
COMPOUND
INTEREST
According to Kya et. al. 2019, when
you borrow money from a bank, you
pay interest. If you want to know how
much interest you will earn on your
investment or how much you will pay
above the cost of the principal amount
of a loan, you will need to understand
how compound interest works.
Compound interest is calculated
on the original and on the
accumulated past interest.
Concepts of compound interest
are used in financial planning,
investment, budgeting and
financial control.
Simple interest computation is based on
the original principal, which does not
change from time to time. Interest
calculation remains unchanged throughout
the transaction period. However,
compound interest computation is based
on the principal, which changes from time
to time. Interest that is earned is
compounded or converted into principal
and earns interest thereafter. Hence, the
principal increases from time to time.
In general, there are two differences between
simple interest and compound interest as
stated below.
• Simple interest is based on the original
principal; that is, the total amount in each
period grows by some definite fraction of the
original principal.
• Compound interest is based on the principal
which grows by some fraction of the sum of
the principal and the interest paid on all
previous periods.
MATURITY VALUE FORMULA
𝒓 𝒏𝒕
𝑨=𝑷 𝟏+
𝒏
where:
A = Future value or amount
P = Principal
r = rate
t = time (in years)
n = number of times interest is compounded per
unit “t”
Usually, financial agencies report the
interest rate on a nominal annual basis with a
specified compounding period that shows the
number of times interest is compounded per
year. If the interest rate is compounded
annually, it means interest is compounded once
per year and you receive the interest at the
end of the year. For example, if you deposit
100 pesos in a bank account with an annual
interest rate of 6% compounded annually, you
will receive 100∗(1+0.06) = 106 pesos at the
end of the year.
But, the compounding period can be smaller than a year (it
can be semi-annually, quarterly, monthly, every 2 months or
daily). In that case, the interest rate would be compounded
more than once a year. For example, if the financial agency
reports semi-annually compounding interest, it means interest
will be compounded 2 times per year and you would receive the
interest at the end of each 6 months. If the interest is
compounding quarterly, then the interest is compounded 4
times per year and you would receive the interest at the end
of every quarter or at the end of every 3 months. If the
interest is compounding monthly, then the interest is
compounded 12 times per year and you would receive the
interest at the end of the month. If the interest is
compounding every 2 months, then the interest is compounded 6
times per year and you would receive the interest at the end
of the every 2 months.
“Compounded annually” (n = 1)
“Compounded semi-annually” (n = 2)
“Compounded quarterly” (n = 4)
“Compounded monthly” (n = 12)
“Compounded every 2 months” (n = 6)
The compound interest I is the
difference between the future value
and the original principal, that is
I = A – P
Where:
I – Interest
A – Future Value/Amount
P – Principal Amount
EXAMPLE
Find the future value of P1,000 which was invested
for
a)4 years at 4% compounded annually,
b)5 years and 6 months at 14% compounded semi-
annually,
c)2 years and 3 months at 4% compounded quarterly,
d)5 years and 7 months at 5% compounded monthly,
e)2 years and 8 months at 9% compounded every 2
months.
EXAMPLE A
Find the future value of P1,000 which was
invested for
a)4 years at 4% compounded annually
Solve for the future value/amount (A):
Given:
A = ?
P = 1000
r = 4% or 0.04
t = 4 years
n = 1
Solution: To solve for the
𝒓 𝒏𝒕 compound interest:
𝑨=𝑷 𝟏+
𝒏 𝑰=𝑨 −𝑷
(𝟏)(𝟒)
𝟎. 𝟎𝟒 𝑰 = 𝟏𝟏𝟔𝟗. 𝟖𝟔 − 𝟏𝟎𝟎𝟎
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 +
𝟏
𝑰 = ₱𝟏𝟔𝟗. 𝟖𝟔
(𝟒)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 + 𝟎. 𝟎𝟒
(𝟒)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏. 𝟎𝟒 Thus, the future value is
₱1169.86 and the compound
𝑨 = ₱𝟏, 𝟏𝟔𝟗. 𝟖𝟔
interest is ₱169.86.
EXAMPLE B
Find the future value of P1,000 which was
invested for
b)5 years and 6 months at 14% compounded semi-
annually,
Solve for the future value/amount (A):
Given:
A = ?
P = 1000
r = 14% or 0.14
𝟏
t = 5 years and 6 months or 5
𝟔
𝟏𝟐
or 5
𝟐
𝐨𝐫 𝟓. 𝟓
n = 2 (semi-annually)
Solution: To solve for the
𝒓 𝒏𝒕 compound interest:
𝑨=𝑷 𝟏+
𝒏 𝑰=𝑨 −𝑷
(𝟐)(𝟓.𝟓)
𝟎. 𝟏𝟒 𝑰 = 𝟐𝟏𝟎𝟒. 𝟖𝟓 − 𝟏𝟎𝟎𝟎
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 +
𝟐
𝑰 = ₱𝟏𝟏𝟎𝟒. 𝟖𝟓
(𝟏𝟏)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 + 𝟎. 𝟎𝟕
(𝟏𝟏)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏. 𝟎𝟕 Thus, the future value is
₱2104.85 and the compound
𝑨 = ₱𝟐𝟏𝟎𝟒. 𝟖𝟓
interest is ₱1104.85
EXAMPLE C
Find the future value of P1,000 which was
invested for
c) 2 years and 3 months at 4% compounded
quarterly
Solve for the future value/amount (A):
Given:
A = ?
P = 1000
r = 4% or 0.04
𝟏
t = 2 years and 3 months or 2
𝟑
𝟏𝟐
or
2 𝐨𝐫 𝟐. 𝟐𝟓
𝟒
n = 4 (quarterly)
Solution: To solve for the
𝒓 𝒏𝒕 compound interest:
𝑨=𝑷 𝟏+
𝒏 𝑰=𝑨 −𝑷
(𝟒)(𝟐.𝟐𝟓)
𝟎. 𝟎𝟒 𝑰 = 𝟏𝟎𝟗𝟑. 𝟔𝟗 − 𝟏𝟎𝟎𝟎
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 +
𝟒
𝑰 = ₱𝟗𝟑. 𝟔𝟗
(𝟗)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 + 𝟎. 𝟎𝟏
(𝟗)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏. 𝟎𝟏 Thus, the future value is
₱1093.69 and the compound
𝑨 = ₱𝟏𝟎𝟗𝟑. 𝟔𝟗
interest is ₱93.69.
EXAMPLE D
Find the future value of P1,000 which was
invested for
d) 5 years and 7 months at 5% compounded
monthly
Solve for the future value/amount (A):
Given:
A = ?
P = 1000
r = 5% or 0.05
t = 5 years and 7 months or 5
𝟕
𝟏𝟐
𝐨𝐫 𝟓. 𝟓𝟖𝟑
n = 12 (monthly)
Solution: To solve for the
𝒏𝒕
compound interest:
𝒓
𝑨=𝑷 𝟏+ 𝑰=𝑨 −𝑷
𝒏
(𝟏𝟐)(𝟓.𝟓𝟖𝟑) 𝑰 = 𝟏𝟑𝟐𝟏. 𝟐𝟒 − 𝟏𝟎𝟎𝟎
𝟎. 𝟎𝟓
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 + 𝑰 = ₱𝟑𝟐𝟏. 𝟐𝟒
𝟏𝟐
(𝟔𝟔.𝟗𝟗𝟔) Thus, the future value
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 + 𝟎. 𝟎𝟎𝟒𝟏𝟔𝟔𝟔𝟕
is ₱1321.24 and the
(𝟔𝟔.𝟗𝟗𝟔)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏. 𝟎𝟎𝟒𝟏𝟔𝟔𝟔𝟕 compound interest is
𝑨 = ₱𝟏𝟑𝟐𝟏. 𝟐𝟒 ₱321.24.
EXAMPLE E
Find the future value of P1,000 which was
invested for
e) 2 years and 8 months at 9% compounded every 2
months.
Solve for the future value/amount (A):
Given:
A = ?
P = 1000
r = 9% or 0.09
𝟐
t = 2 years and 8 months or 2
𝟖
𝟏𝟐
or
2 𝐨𝐫 2.67
𝟑
n = 6 (monthly)
Solution: To solve for the
𝒏𝒕
compound interest:
𝒓
𝑨=𝑷 𝟏+ 𝑰=𝑨 −𝑷
𝒏
(𝟔)(𝟐.𝟔𝟕) 𝑰 = 𝟏𝟐𝟔𝟗. 𝟑𝟔 − 𝟏𝟎𝟎𝟎
𝟎. 𝟎𝟗
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 + 𝑰 = ₱𝟐𝟔𝟗. 𝟑𝟔
𝟔
(𝟏𝟔.𝟎𝟐) Thus, the future value
𝑨 = 𝟏𝟎𝟎𝟎 𝟏 + 𝟎. 𝟎𝟏𝟓
is ₱1269.36 and the
(𝟏𝟔.𝟎𝟐)
𝑨 = 𝟏𝟎𝟎𝟎 𝟏. 𝟎𝟏𝟓 compound interest is
𝑨 = ₱𝟏𝟐𝟔𝟗. 𝟑𝟔 ₱269.36.
