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I don't expect anyone who's not in finance to care, so if you're bored, move along.
I've heard about and studied many day count conventions, like 30/360, but in Russia there's only one convention that a bank can use: actual/actual. I think this was supposed to protect the customer, but mainly it is a major pain in the ass.
First of all, all the formulae in Excel are absolutely useless. Let's take a look at an ordinary time deposit. Let's say, ten grand for three months, 5% annual interest. No compound interest, to keep it simple. It must be 10000x3/12x5/100, right?
Hell no.
First of all, what months are those? Let's say, 14-Nov-2008 to 14-Feb-2009. That's 92 days. Actually, it's 94, as 14-Feb-2009 is a Saturday, and the bank doesn't work on Saturdays, so because it keeps the money for 2 more days, it has to pay additional interest. Okay, 94 days. 10000x94/365x5/100 should do the trick.
Hell no.
2008 is a leap year, so you should use 366 for those days that are in 2008, and 265 for the others.
10000x(47/366+47/365)x5/100 is the right answer.
Thank that's bad?
Our marketing department wants to offer a new product: money market deposit account with interest compunded daily. So any day that balance can either grow or shrink, and every day you have to accrue and compound the bloody interest.
But deposits are simple. You need only an Excel spreadsheet and some braincells to be able to calculate even the last monster I've described. Let's take a look at loans.
A mortgage is usually paid off every month in an annuity. Wikipedia tells us that "The fixed monthly payment P for a loan of L for n months and a monthly interest rate c is: P = L * c * (1 + c)^n/((1 + c)^n - 1)". A bit complex, but understandable enough. Ha!
If you accrue your interest daily, it is repaid in an uneven progression, and you have to take that into account when determining the size of your monthly payments, and because the repayment days sometimes fall on weekends and on holidays, the actual monthly payment sometimes turns out a bit larger than the one that is written in the loan contract, so the customer gets punished for that with fines and penalties. you have to take holidays into account when determining the size of your monthly payment. Don't forget, every month affects the following, as you principal amount shrinks and less interest is accrued daily.
Think you can manage to write that sort of algorithm? I haven't even bothered. Yet.
And then the bloody customer returns and wants to repay 20% of the loan immediately. Sure, now you have to go and recalculate the bloody schedule again.
And then, because some of the holidays fall on the weekends, the government shuffles them around so nobody has to work more that he should. Now the repayment day is a holiday, and guess what? The schedule is all wrong again.
Okay, you have managed to write a program that does track all these things. Now comes the most exciting thing: you have to describe the way you have arrived at the annuity amount in the contract. Using words.
I absolutely hate loans.
How does interest accrual work in your country or in the bank you work for or are a customer of, if the legislation is that liberal in your country?
I've heard about and studied many day count conventions, like 30/360, but in Russia there's only one convention that a bank can use: actual/actual. I think this was supposed to protect the customer, but mainly it is a major pain in the ass.
First of all, all the formulae in Excel are absolutely useless. Let's take a look at an ordinary time deposit. Let's say, ten grand for three months, 5% annual interest. No compound interest, to keep it simple. It must be 10000x3/12x5/100, right?
Hell no.
First of all, what months are those? Let's say, 14-Nov-2008 to 14-Feb-2009. That's 92 days. Actually, it's 94, as 14-Feb-2009 is a Saturday, and the bank doesn't work on Saturdays, so because it keeps the money for 2 more days, it has to pay additional interest. Okay, 94 days. 10000x94/365x5/100 should do the trick.
Hell no.
2008 is a leap year, so you should use 366 for those days that are in 2008, and 265 for the others.
10000x(47/366+47/365)x5/100 is the right answer.
Thank that's bad?
Our marketing department wants to offer a new product: money market deposit account with interest compunded daily. So any day that balance can either grow or shrink, and every day you have to accrue and compound the bloody interest.
But deposits are simple. You need only an Excel spreadsheet and some braincells to be able to calculate even the last monster I've described. Let's take a look at loans.
A mortgage is usually paid off every month in an annuity. Wikipedia tells us that "The fixed monthly payment P for a loan of L for n months and a monthly interest rate c is: P = L * c * (1 + c)^n/((1 + c)^n - 1)". A bit complex, but understandable enough. Ha!
If you accrue your interest daily, it is repaid in an uneven progression, and you have to take that into account when determining the size of your monthly payments, and because the repayment days sometimes fall on weekends and on holidays, the actual monthly payment sometimes turns out a bit larger than the one that is written in the loan contract, so the customer gets punished for that with fines and penalties. you have to take holidays into account when determining the size of your monthly payment. Don't forget, every month affects the following, as you principal amount shrinks and less interest is accrued daily.
Think you can manage to write that sort of algorithm? I haven't even bothered. Yet.
And then the bloody customer returns and wants to repay 20% of the loan immediately. Sure, now you have to go and recalculate the bloody schedule again.
And then, because some of the holidays fall on the weekends, the government shuffles them around so nobody has to work more that he should. Now the repayment day is a holiday, and guess what? The schedule is all wrong again.
Okay, you have managed to write a program that does track all these things. Now comes the most exciting thing: you have to describe the way you have arrived at the annuity amount in the contract. Using words.
I absolutely hate loans.
How does interest accrual work in your country or in the bank you work for or are a customer of, if the legislation is that liberal in your country?
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