APY: What It Is & How to Calculate It
Are you looking to invest in crypto banking or DeFi projects? Many companies advertise high APYs to entice others to invest in their company.
But how do you know what a good APY should be, especially in the crypto world, where many projects offer obscene APY earnings to attract more investors? We’ll explain everything you need to know about APY and how to calculate it for your next investment.
What is the Annual Percentage Yield (APY)?
APY is how much your investment will grow over time as your earned interest compounds into your investment. Generally, the interest-bearing account annualizes for a year.
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In cryptocurrency, some farming and staking investments may have shorter periods for vesting, but the APY is a yearly percentage. So if you staked or farmed your tokens for the entire year, you would receive the full APY after one year.
But, in crypto, a year is an extremely long time to HODL. Most investors will not keep their investment in for an entire year, except for more stable tokens they plan to hold long-term, like Bitcoin or Ethereum.
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How Does APY Work?
When you invest your money into an account, stake, farm, or DeFi project, they often list the interest rate you will earn and how often they pay out the interest for keeping your money in the project.
They generally list an APY, which shows how much your money will grow if you leave it in the account or project for a whole year, allowing the interest to add to the investment balance. Depending on the Defi project, you may earn interest:
As the interest compounds with your initial investment, it earns greater interest for the next payout period. This is how a 2% interest rate can have high APY if it pays interest daily or weekly. A high APY is very enticing. But in crypto, you need to be careful because these super high APY projects are often very risky investments.
How Do I Calculate APY?
To calculate your APY for a particular investment, this is the formula:
APY = (1 + r/n)n + 1
r = Interest Rate
n = Number of Periods the Interest Compounds
You can then create a spreadsheet by multiplying the APY with your initial investment. There are also many APY calculators on the Internet to simplify the process for you.
What is a Good APY?
In traditional banking, the national average APY is only 0.06%. Some online banks offer high yields of 0.40%. When investing or saving money, the higher the APY, the better. In cryptocurrency investing, you can see significantly higher APYs.
But you should always do your research before FOMOing into a cryptocurrency project or savings account. There are a plethora of scam projects and opportunities to flush your money if you aren’t careful.
Is APY Paid Monthly?
How often your interest is paid depends entirely on the bank, project, or business offering the interest rewards for investing or saving with them. In cryptocurrency, you can see the full gambit of interest reward rates from daily to yearly.
But the APY percentage will tell you how much your money will make if left investing for the whole year, compounding the interest into the principle with each interest payment period.
Is APY Variable?
Again, the APY can be variable depending on the project or account. This is why it is crucial to read all the fine print about the company, their offering, and any additional stipulations that could change the interest rate or APY.
In crypto, many projects often leave a door open, allowing for additional changes depending on different conditions like volume, investment, or market capitalization. Some are very transparent about how their interest rate algorithm is calculated. In contrast, others are vaguer, which is why we can’t stress enough that you need to do your research before investing.
The Difference Between APR vs. APY
Often confused, APY and APR are very different. The APY is the amount an investor will earn by compounding their interest into their initial investment over a year. The annual percentage rate (APR) does not include compounded interest. If compounded interest is added frequently, there will be a more significant difference between the APY and APR.
The formula for calculating APR = Periodic Rate x Number of Periods in the Year
The company will either advertise the APR or APY, depending on how they want you to invest with them. By understanding the difference, you can make more informed decisions about the ways you’ll invest, save, and borrow money.
Understanding APY is Very Important to Crypto Investing
When investing in crypto projects, banking with crypto lenders, and borrowing crypto for specific needs or investing, it’s essential that you understand APY and how it will affect your money. For lending, you want a low APY or APR. For investing and saving, you’ll want a high APY.
But again, be wary of crypto scams trying to promise big numbers it can’t sustain. If it sounds too good to be true, it probably is too high risk. Do your research, and happy investing.
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