Given a choice of two investments, would you choose one that pays a total return of 30 percent over five years or one that pays 0.5 percent per month for five years?
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I would go for the second one of these investments. If I go for the first and I invest $100 at the beginning, I will get $130 at the end of the five year period. But if I go for the other one, I will end up with just under $135. That's a 5% difference in return. Compounding is a very good thing...
Yes, the second choice is obviously (or perhaps not so obviously) the best, and I'm sure it was aimed at getting students to recognize the principle of compounding interest, which is basically the foundation of modern systems of credit.
I agree with the two previous answers, and I particularly agree about the benefits of compound interest. This is one reason that young people would be wise to begin saving at an early age: compounding is best if there are decades, rather than just years, of compounding involved.
It depends on how long you want to keep the money there. As you can see by the other answers, there is only a few dollars difference. You could take either one. However, if you are keeping the money there longer you would need to go with number 2.
Clearly the question here is whether you are willing to go for the initial short return or the initial big return. The principal of compounding interest clearly helps us to see that in net terms the second option will get you more money. The only problem is you will have to wait for it.
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