If a deposit offers a nominal interest rate of 0.50% per annum, which frequency of crediting interest to that account will give the HIGHEST return to the depositor?

• A. At the end of each quarter.
• B. At the end of the year.
• C. At the end of six months.
• D. At the end of each month.

Answer: (D)

With a fixed nominal rate, the actual amount you earn in a year depends on how often interest is credited and added to the balance. More frequent crediting means interest compounds more often, so you earn interest on interest more times within the year. For a nominal rate of 0.50% per year, monthly compounding gives the highest effective yield: (1 + 0.005/12)^12 − 1 ≈ 0.5013%, which is higher than the ~0.5009% with quarterly, ~0.5006% with semiannual, and exactly 0.50% with annual. So crediting interest monthly maximizes the return.