Gross AER: what does it mean?

Find out all about gross AER, what it means and how it affects the profitability of investments.

Gross AER is one of the most widely used acronyms in the financial world and has a direct impact on investments. Find out what it means and how it affects your portfolio’s real returns.

What is Gross AER and what is it used for?

The Gross Annual Equivalent Rate (Gross AER) – in Portuguese, TANB –, refers to the annual rate of return an investment before tax and other charges are deducted. For investors, the gross AER provides a benchmark for evaluating different investment options – for example, in different geographies or asset types – and is a mandatory standard metric for any term deposit. 

Interest rates on new retail deposits, by agreed maturity

Source: Banco de Portugal

Because it is a universal rate, the gross AER is useful for comparing similar term deposits and for situations where a simple assessment of the interest rate is sufficient.

How is the gross AER calculated?

The calculation of the gross AER is quite simple, but it is important to understand the variables involved in the calculation. The formula is as follows: Gross AER = (interest/capital) x (360/N) x 100%.

For the calculation of interest on deposits in euro, the days must be counted on an actual/360 basis, which is the general convention in the euro money market.

These are the main variables:

• Interest: total amount of interest received during the investment period (before tax).

• Capital: initial value of the investment.

• N: number of days the capital has been invested. 

Consider the example of an investor who invests €5,000 in a fixed-term deposit paying 3% per annum. If the interest is paid at the end of the term and the money is invested for one year (360 days), the interest on this investment would be €5,000 x 0.03 = €150.

Using the gross AER formula: Gross AER = (150/5,000) x (360/360) x 100% = 0.03 = 3%. In this example, the gross AER is 3%. This means that the saver will earn 3% interest on the amount invested over the course of one year. However, it is important to remember that this is just a simple example and that, in practice, especially in more complex situations, calculations may involve different methods (e.g. capitalisation of interest) and other variables that may affect the gross AER, so you should always consult a professional to carry out the calculations accurately. In addition, this is the gross rate for the term deposit. You will also have to deduct the tax on the income received, so the net return would be €150 minus the tax due (and any commissions).

What are the limitations of the gross AER?

The gross AER also has some limitations that should be taken into account:

Gross AER does not take into account tax or compound interest

To get a more accurate picture of the real return on an investment, you need to consider whether or not interest is capitalised throughout the year. This can be done by calculating the Annual Percentage Rate (APR) or the Net Annual Equivalent Rate (Net AER), which already take into account the effect of capitalisation and taxes paid on capital gains.

Gross AER does not include other fees and costs

Gross AER does not include other fees such as transaction, insurance or management fees that may be associated with the investment. Therefore, the actual return to the investor may differ from that indicated by the gross AER.

Gross AER does not reflect inflation

Gross AER does not take into account the effects of inflation, which means that it does not give an accurate picture of the real purchasing power of the capital invested over time.

What should I be aware of when analysing gross AER?

When analysing the gross AER, it is important to take a number of precautions in order to make informed financial decisions.

1. Take account of the compound interest effect

It is important to understand whether or not the interest receivable is capitalised. Check whether the interest is simple or compound and how often it is capitalised to assess the real impact on the capital invested.

2. Take into account other fees and taxes

When comparing investment terms, you shouldn’t just be looking at the gross AER. The Annual Percentage Rate (APR) or the Net Annual Equivalent Rate (Net AER) take into account capitalisation and other associated costs, giving a more accurate picture of financial returns. You should also consider other associated costs such as tax, insurance and management fees, which can have a significant impact on the financial figure. 

3. Assess the timeframe

Consider your investment horizon. As the gross AER is calculated on an annual basis, it may show significantly different values if your investment has a different time horizon. 

4. Make realistic projections

When making income projections based on the gross AER, be realistic about economic conditions and interest rate fluctuations. Market conditions can significantly affect real values over time.

5. Contact a professional

Don’t forget to contact your account manager for personalised advice. By taking these precautions, you will be in a better position to make sound financial decisions and avoid any unpleasant surprises in the future.

Banco Carregosa, a wealth of experience at the service of your assets 

In a constantly evolving financial world, the security and growth of your assets are essential priorities. At Banco Carregosa, you can rely on the experience of our financial experts and receive personalised advice.