APR vs. APY: What’s the Difference?
In crypto, APR stands for ‘Annual Percentage Rate’ and is used to calculate the amount of interest you earn per year without taking into account the compound interest. In contrast, APY stands for ‘Annual Percentage Yield’ and indicates the amount of interest you earn for your investment while considering compound interest. On the other hand, To understand these concepts better, let’s see what each of them means in detail.
What is APY
APY is the amount of interest you get for your investment, typically a compounded type of interest. Compound interest means that your interest is added to the initial investment amount, and the next interest is calculated based on the new balance. In the world of cryptocurrencies, APY is calculated for investment activities like staking and yield farming. Decentralized Finance (DeFi) platforms offer various percentages of interest rates by compounding the rewards.
The most important factor in calculating APY is the frequency by which the interest is paid and added to the initial balance. The higher this frequency, the higher the APY will be. Interest is usually compounded quarterly, monthly, or daily. Therefore, the interest added to your account will become part of your average daily balance. Therefore, if the interest is paid daily, it will lead to higher APY than if it’s paid quarterly. The APY formula is:
| APY = (1 + r/n) ⁿ − 1 where: r = periodic rate of return (or annual APR) n = number of interest |
You can find online APY calculators which do the math for you. If you’d like to know more about how compounding interest works, make sure you read this article.
What is APR
APR is an acronym for Annual Percentage Rate. The term is primarily used to define interest on mortgages, credit cards, or other loans. But the definition is quite different in the world of crypto. In the cryptocurrency market and DeFi, APR is the amount of interest you receive without considering compound interest.
APR vs. APY
The main difference between APY and APR is that APY shows the amount of interest you earn for your investment, while APR is used to calculate the amount of interest you gain without compound interest. Therefore, you need to bear in mind that although they seem pretty much the same, they are used for different situations. Another important factor that differentiates these two is that the APR is typically different in each year of the loan, while APY stays the same in all years of the investment.
One thing that DeFi investors need to take into consideration is that in decentralized finance, market conditions are a factor that can make APY fluctuate over time. This is not because of the nature of APY, because, as said earlier, APY tends to stay the same. Nevertheless, this fluctuation in the APY rate is because of the nature of the cryptocurrency market. You can read more about APY in DeFi from this link.
Conclusion
Both APY and APR calculate the yearly interest of your funds, but while APY is used for how much you earn on a DeFi platform in a compound matter, APR indicates the amount of interest you receive without compound interest. Therefore, knowing how these two indexes work is essential.
