APR is the simple annual rate of return without compounding; APY is the annualized rate after compounding, so it is always equal to or higher than APR. Quoting APY makes a yield look larger than the same yield quoted as APR, which is why selective use of one or the other is misleading yield marketing.
Selective disclosure is yield inflation. APR for costs and APY for rewards paints a systematically biased picture, so quote everything on the same basis with the compounding assumption stated.
How it works
APR (Annual Percentage Rate) is the simple annualized return: the periodic rate times the number of periods in a year, with no credit for reinvested earnings. APY (Annual Percentage Yield) is the effective return after compounding, assuming each period's earnings are reinvested and themselves earn more. For the same underlying rate, APY is always at least APR, and always higher whenever compounding happens more than once a year.
How it is calculated
The relationship is APY = (1 + APR/n)^n - 1, where n is the number of compounding periods per year. A 20 percent APR compounded daily (n=365) is roughly 22.1 percent APY. The gap widens at higher rates and higher frequencies, exactly the range DeFi operates in, so weekly or daily compounding quoted in APY terms can make a modest base rate look far more attractive.
Common mistake
The usual error is using APY in marketing headlines without disclosing the compounding assumption, something regulated financial products in most jurisdictions require but DeFi routinely omits. The problem compounds for composite yields, where base rate, AVS fees, and token incentives may compound at different frequencies depending on whether the depositor reinvests.
Protocols that set an APR-first standard, with APY available alongside a clear compounding disclosure, position themselves as the trustworthy alternative to headline-chasing competitors.
See Tokenomics Design for how this applies in practice.
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