The yearly interest rate earned including compound interest.
Detailed Explanation
APY, or Annual Percentage Yield, represents the real rate of return earned on an investment over one year, including the effect of compounding interest. Unlike APR, APY accounts for the frequency at which rewards are reinvested — whether daily, weekly, or monthly. In DeFi, APY is the more commonly advertised metric because compounding makes yields appear higher. The formula is: APY = (1 + r/n)^n - 1, where r is the periodic interest rate and n is the number of compounding periods per year.
Why It Matters
APY provides a more accurate picture of actual returns than APR because most DeFi protocols automatically compound rewards. When comparing yield opportunities across different protocols, using APY gives you a true apples-to-apples comparison of what you'll actually earn. However, be cautious of extremely high APY figures, as they often involve significant risk or may not be sustainable.
Real-World Example
A DeFi protocol advertising 100% APY on a stablecoin pair means that if you deposit $1,000 and the rate remains constant, you would have approximately $2,000 after one year. However, high APY rates in DeFi are often temporary — they may start high to attract liquidity and decrease as more users deposit funds.