Compounding frequency
How often earned interest is added to the balance — yearly, monthly or daily — so it can start earning interest itself.
Compounding frequency is how often earned interest gets added to your balance, at which point that interest starts earning interest of its own. Common frequencies are yearly, quarterly, monthly and daily. The more often interest is added, the sooner it joins the balance and begins generating its own return, so a higher compounding frequency produces slightly more growth from the same nominal rate.
What it changes
More frequent compounding raises your effective return, but the effect is real and small, not dramatic. On €10,000 at a 5% nominal rate over 10 years, yearly compounding grows it to €16,288.95, monthly compounding to €16,470.09, and daily compounding to €16,486.65. Monthly beats yearly by €181.14. Daily beats monthly by only €16.56. The jump from yearly to monthly compounding matters more than the jump from monthly to daily, because each extra step of frequency buys a smaller improvement than the one before it. Compounding frequency also matters far less than the interest rate itself or the length of time your money is invested. A higher rate or a longer term will do more for your balance than switching from monthly to daily compounding ever could.
Where you’ll see it
Savings account terms state the compounding frequency alongside the nominal rate, since two accounts with the same headline rate can pay out slightly different amounts depending on how often interest is credited. This is also why AER exists: it converts different compounding frequencies into one comparable annual figure, so you can compare accounts fairly regardless of how often each one compounds. Compounding frequency also appears directly inside the compound interest formula, where it’s represented by the variable n, the number of times interest compounds per year. Changing n while holding the rate and time constant is exactly what produces the small differences shown above.