Interest rates

Interest rates

Interest rates, which impact everything from your mortgage payments to the return on your investments, are the beating heart of the world financial system. These ostensibly insignificant percentages significantly influence how we handle our finances and the overall economic environment. Understanding interest rates is essential whether you’re an investor aiming to maximise profits, a borrower attempting to finance a new home, or a saver trying to build your retirement fund. 

What are interest rates? 

Interest rates represent the cost of borrowing money or the long-term return on investments. The compensation lenders earn for lending their funds and the fees borrowers pay to borrow them are expressed as percentages. By controlling the money flow in an economy, interest rates are a key instrument for central banks and governments to manage the general economic environment. 

Understanding interest rates 

It’s critical to comprehend the ideas behind interest rates to appreciate their significance fully:

  • Principal amount 

The first amount borrowed or invested is referred to as the principal amount. Based on this principal sum, interest rates are computed. 

  • Interest rate percentage 

The annual cost or return on the principal amount, usually represented as a percentage of the principal, is the interest rate percentage. 

  • Period 

The length of time that the principal amount is borrowed or invested is known as the period. Depending on the loan or investment terms, interest rates may be charged annually, semi-annually, quarterly, or even monthly. 

  • Compounding 

The process by which interest accrues interest over time is known as compounding. It may be straightforward or complex. Compound interest accounts for the principal and any prior interest earned, whereas simple interest just considers the initial principal amount.

Types of interest rates  

There are various interest rates, each with a specific function and a varied impact on borrowers, lenders, and investors. Some of the most typical interest rate categories are listed below: 

  • Nominal interest rate 

The nominal interest rate, sometimes called the stated interest rate, is the amount specified in investment agreements or loan agreements. Since it doesn’t consider inflation or compounding, it is less helpful for actual computations. 

  • Real interest rate 

By accounting for inflation, the real interest rate provides a more realistic depiction of the true buying power of an investment or the cost of borrowing. It stands for the nominal interest rate less inflation. 

  • Fixed interest rate 

In a fixed interest rate, the interest rate is maintained for a loan or investment. While lenders and investors gain from a steady income stream, borrowers benefit from regular monthly payments. 

  • Variable interest rate 

Variable interest rates, also called adjustable interest rates, can alter over time depending on a specified index, such as the prime rate or LIBOR (London Interbank Offered Rate). As a result, borrowers may experience changes in their monthly payments. 

  • Prime rate 

The prime rate is the percentage of interest banks charge to their most credit-worthy clients. It is a standard for many other interest rates, including those on credit card balances and adjustable-rate mortgages. 

  • Federal funds rate 

Central banks, such as the Federal Reserve in the United States, determine the federal funds rate. It significantly impacts short-term interest rates and is essential to monetary policy. 

Examples of interest rates 

Let us take an example to understand interest rates  

  • Mortgage rates 

We come across mortgage interest rates when buying a home. A 30-year fixed-rate mortgage can have an interest rate of 4%, by which we’ll pay 4% every year on the borrowed sum. 

  • Savings account 

A savings account gives an annual interest rate of 1%. US$100 in interest will be earned over a year if you have US$10,000 in your account. 

  • Credit card 

Interest rates charged by credit card firms often range from 15% to 25% or more on unpaid balances. A US$1,000 balance with a 20% interest rate on a credit card will cost you US$200 in interest a year. 

  • Bonds 

Investors receive interest from both corporate and government bonds. For instance, a US$1,000 investment in a 10-year U.S. Treasury bond yielding 3% will return US$30 yearly. 

Frequently Asked Questions

Simple interest is calculated over time and applied to the initial principale sum. Compound interest, on the other hand, accounts for both the main sum and any prior interest. Compound interest consequently increases with time, possibly increasing the profitability of investments and the cost of borrowing. 

Interest accrued but not yet paid or received on a financial instrument, like a bond or a loan, is known as accrued interest. It builds up over time until it must be paid for or settled. 

Nominal interest rates, the stated rates without taking inflation or compounding into account, are one type of interest rate. Real interest rates account for inflation to reflect buying power more accurately. Fixed, variable, prime, and federal funds rates cater to different financial demands and market dynamics. 

Interest Rate (%) = (Interest Amount/Principal Amount) x 100 

 To express interest as a percentage, we should multiply the interest earned or paid by the principal sum. This equation can be used to calculate both simple and compound interest. 

The current interest rate in the US market varies widely and changes frequently. It generally fluctuates between 5.25% andto 5.5%. 

    Read the Latest Market Journal

    Navigating the Post-Inflation Landscape in 2024: Top 10 US Markets Key Events to Look out for

    Published on Feb 23, 2024 49 

    Start trading on POEMS! Open a free account here! In 2023, the United States experienced...

    From Boom to Bust: Lessons from the Barings Bank Collapse

    Published on Feb 23, 2024 12 

    Barings Bank was one of the oldest merchant banks in England with a long history...

    Decoding FX CFD 2.0

    Published on Feb 20, 2024 60 

    This article is aimed at availing information and knowledge essential to intermediate forex traders. It...

    Weekly Updates 19/2/24 – 23/2/24

    Published on Feb 19, 2024 79 

    This weekly update is designed to help you stay informed and relate economic and company...

    Unlock Prosperity with 5 Sure-Fire Financial Instruments!

    Published on Feb 14, 2024 187 

    In Singapore, the concept of guaranteed returns may evoke the spirit of prosperity, reminiscent perhaps...

    Weekly Updates 12/2/24 –16/2/24

    Published on Feb 13, 2024 69 

    This weekly update is designed to help you stay informed and relate economic and company...

    Decoding FX CFD

    Published on Feb 7, 2024 97 

    The foreign exchange market commonly known as the forex or FX market, is a cornerstone...

    Chinese New Year: Three Cases For CFD Trading

    Published on Feb 6, 2024 140 

    The Chinese New Year is a festive season may be celebrated by some parts of...

    Contact us to Open an Account

    Need Assistance? Share your Details and we’ll get back to you

    IMPORTANT INFORMATION

    This material is provided by Phillip Capital Management (S) Ltd (“PCM”) for general information only and does not constitute a recommendation, an offer to sell, or a solicitation of any offer to invest in any of the exchange-traded fund (“ETF”) or the unit trust (“Products”) mentioned herein. It does not have any regard to your specific investment objectives, financial situation and any of your particular needs. You should read the Prospectus and the accompanying Product Highlights Sheet (“PHS”) for key features, key risks and other important information of the Products and obtain advice from a financial adviser (“FA“) pursuant to a separate engagement before making a commitment to invest in the Products. In the event that you choose not to obtain advice from a FA, you should assess whether the Products are suitable for you before proceeding to invest. A copy of the Prospectus and PHS are available from PCM, any of its Participating Dealers (“PDs“) for the ETF, or any of its authorised distributors for the unit trust managed by PCM.  

    An ETF is not like a typical unit trust as the units of the ETF (the “Units“) are to be listed and traded like any share on the Singapore Exchange Securities Trading Limited (“SGX-ST”). Listing on the SGX-ST does not guarantee a liquid market for the Units which may be traded at prices above or below its NAV or may be suspended or delisted. Investors may buy or sell the Units on SGX-ST when it is listed. Investors cannot create or redeem Units directly with PCM and have no rights to request PCM to redeem or purchase their Units. Creation and redemption of Units are through PDs if investors are clients of the PDs, who have no obligation to agree to create or redeem Units on behalf of any investor and may impose terms and conditions in connection with such creation or redemption orders. Please refer to the Prospectus of the ETF for more details.  

    Investments are subject to investment risks including the possible loss of the principal amount invested. The purchase of a unit in a fund is not the same as placing your money on deposit with a bank or deposit-taking company. There is no guarantee as to the amount of capital invested or return received. The value of the units and the income accruing to the units may fall or rise. Past performance is not necessarily indicative of the future or likely performance of the Products. There can be no assurance that investment objectives will be achieved.  

    Where applicable, fund(s) may invest in financial derivatives and/or participate in securities lending and repurchase transactions for the purpose of hedging and/or efficient portfolio management, subject to the relevant regulatory requirements. PCM reserves the discretion to determine if currency exposure should be hedged actively, passively or not at all, in the best interest of the Products.  

    The regular dividend distributions, out of either income and/or capital, are not guaranteed and subject to PCM’s discretion. Past payout yields and payments do not represent future payout yields and payments. Such dividend distributions will reduce the available capital for reinvestment and may result in an immediate decrease in the net asset value (“NAV”) of the Products. Please refer to <www.phillipfunds.com> for more information in relation to the dividend distributions.  

    The information provided herein may be obtained or compiled from public and/or third party sources that PCM has no reason to believe are unreliable. Any opinion or view herein is an expression of belief of the individual author or the indicated source (as applicable) only. PCM makes no representation or warranty that such information is accurate, complete, verified or should be relied upon as such. The information does not constitute, and should not be used as a substitute for tax, legal or investment advice.  

    The information herein are not for any person in any jurisdiction or country where such distribution or availability for use would contravene any applicable law or regulation or would subject PCM to any registration or licensing requirement in such jurisdiction or country. The Products is not offered to U.S. Persons. PhillipCapital Group of Companies, including PCM, their affiliates and/or their officers, directors and/or employees may own or have positions in the Products. Any member of the PhillipCapital Group of Companies may have acted upon or used the information, analyses and opinions herein before they have been published. 

    This advertisement has not been reviewed by the Monetary Authority of Singapore.  

     

    Phillip Capital Management (S) Ltd (Co. Reg. No. 199905233W)  
    250 North Bridge Road #06-00, Raffles City Tower ,Singapore 179101 
    Tel: (65) 6230 8133 Fax: (65) 65383066 www.phillipfunds.com