I came across the following exercise:
You put $1000 into a savings account today that offers a 5% APR with semi-annual compounding.
- What is the effective annual rate of the saving account?
- How much money will you have in the account after 2 years?
I could choose from the following answer options:
- 0.1025, 0.0975, 1.1025, 0.0250
- 814.5, 1102.5, 1215.51, 902.5
For 1.: Using following formula:
EAR = (1 + APR/k)^k - 1, where APR = 0.05 and k=2
My result EAR = 5.06% which is clearly not one of the possible answers. So where is my mistake?
For 2.: I calculated the FV after two years using above EAR.
FV(1000) = 1000*(1+EAR)^2 = 1115.14
which is again clearly not one of the possible answers.
I know that 2 has to be a consequential error, because 1. is not correct. So I would highly appreciate it if anyone could explain to me what I should have done.