How does compounded interest differ from simple interest?

Compounded interest is defined by the way it calculates interest on both the initial principal and the accumulated interest from previous periods. When interest is compounded, it is added to the principal amount at specified intervals, which means that the interest itself begins to earn interest over time. This results in a progressively larger base amount for calculating future interest, leading to exponential growth of the investment or loan.

In contrast, simple interest is calculated only on the principal amount throughout the entire period, without accounting for the interest that has been added in previous periods. Thus, while simple interest remains constant over time, compounded interest increases at a faster rate, especially over longer periods, as it utilizes the concept of "earning interest on interest."

Other options do not accurately reflect the principles of compounded interest. While it is often true that compounded interest can yield higher returns compared to simple interest, this is not a defining characteristic but rather a consequence of its method of calculation. Additionally, compounded interest is not limited to monthly calculations; it can be compounded at various intervals such as annually, semi-annually, quarterly, or even daily, depending on the terms of the financial agreement. Finally, compounded interest certainly includes a time factor since the frequency of compounding directly influences the total interest earned or paid