In: Finance
Vito Corleone will loan you money on a “ten-for-twelve” arrangement; i.e., for every $10 he gives you today, you give him $12 on payday, which is two months from now. What is the EAR of this loan?
For 2 Month,
Return = (Price at the end - Initial price)/ Initial Price
= (12-10)/10
= 2/10
= 0.02 or 2%
Number of periods = 12 Months / 2 Months
= 6
Effective annual rate =[ (1+Interest rate per period)^Number of period ] -1
= (1+2%)^6 -1
= 1.02^6 -1
= 1.12616241926 -1
= 0.1262 or 12.62%
Effective annual rate = 12.62%