Accrued Interest

Accrued interest is interest which accumulates over a loan term rather than being paid to the lender throughout the term.

Interest-bearing debt instruments such as fixed deposits, bonds and medium term notes may accrue interest over the full loan term rather than paying it to lenders every time it is applied. The compounding interest effect results in the accrual of more interest than would otherwise be paid out.

Example:

A 1000-franc bond with a ten-year term and an annual interest rate of 2% pays out interest as coupons at the end of each year. The investor receives 20 francs per year in interest.

Another bond has the same principal, annual interest rate and term, but accrues interest instead of paying it out as an annual coupon. Because the interest applied each year is added to the principal and interest is then paid on the full amount in the next term (compounding interest), the investor would receive 219 francs in accrued interest when the bond matures. That is 19 francs more (nearly 20%) than they would receive if the bond paid out interest every year throughout the term.

You can use the interest yield calculator on moneyland.ch to find the difference in yields earned through regular distributions and those earned as accrued interest. Just select the relevant model under “Yield model”.

More on this topic:
Swiss medium term note comparison

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