What Is a Daily Factor?
The daily factor is a decimal representation of the portion of an annual yield on an investment. The yield is the income return on an investment, such as the interest or dividends received from holding a certificate of deposit (CD). The daily factory provides help when comparing investing securities with varying compounding rates.
Daily factors are often reported alongside the current annualized yield figures and can be translated back to the current yield percentage by multiplying the daily number by 365.
Understanding Daily Factor
While a daily factor represents a tiny percentage, many high-level banking and trust institutions will provide this daily interest calculation to their most critical institutional accounts.
The larger the pool of invested funds becomes, the more meaningful a daily factor calculation will be to the current account balances. Daily factors are also frequently shown for Treasury bond quotes.
As an example, the daily factor for a certificate of deposit (CD) which trades for a current annual yield of 5.35 percent is .000147 (.0535/365=.000147). So, in this case, the CD would earn 1/10,000 of a cent per day. This fraction of a penny may not seem like much by itself, but when added to many other fractions this penny grows larger.
It's important to note that not every daily factor is calculated using a standard 365-day calendar, to derive the daily rate from the annual rate, institutional banks might use either a 360-day or 365-day year. These two approaches are known as the 365/360 and 365/365 methods.
Income Portfolios and the Daily Factor
Beyond large institutional investors, daily factors are also often closely watched by income-oriented portfolio owners such as retirees. For people dependent on regular cash flow from their investments, the granularity of the calculation can help them keep track of how much interest they might be expected to earn in a day, week, or another period.
To compare and contrast yields on different bonds, it’s important that investors make sure they're using the right methodology.
Bank certificates of deposit (CD) have historically quoted on a 360-day year. However, since the rate is slightly higher when using a 365-day year, most retail CDs are now quoted using the 365/365 method. The 360-day yield divided the calendar year into twelve 30-day periods and made hand calculations simpler.
For investors, this means that when the bank is using the 360-day method of calculation, interest is accrued for the whole year, but the total amount is earned five days early. In other words, the principle and interest can be invested for five extra days, offering a higher effective rate of interest.