With all the investment terms floating around, it can be tough for a newcomer to discern which ones are important to know right off the bat. Trying to understand the plethora of information available about investing can be intimidating, especially if you are unfamiliar with the terminology. Here you are, thinking you have finally got your finances in somewhat of an order. You’ve reached that pinnacle in life where you are ready to have your money make you money. And then you are bombarded with all this information to sort through. Before making that first investment, here are some key investment terms every newbie should know. Keep in mind, these are basic definitions and it is worth doing further research on your own to expand your knowledge of these investment terms.
Assets – Resources with economic value owned by a company, fund, or individual, especially those that can be converted to cash; i.e. real estate, automobiles, investments (stocks and bonds), materials, inventories, etc.
Bear or Bull Market – A bear market is a period of time where investment prices in the market are on the decline, usually when securities decline by 20% coupled with pessimism brought on by economic recession, high unemployment or rising inflation. Conversely, a bull market is a period of time when economic conditions are favorable and there is a sustained increase in prices.
Dollar Cost Averaging – This refers to investing a certain dollar amount into a certain stock at set intervals. The reasoning is that by doing so, it makes the average cost of the stock smaller.
Diversification – This is an investment technique that is meant to reduce risk by spreading investments across a variety of assets.
Dividends – These are payment made by a company to shareholders of the company’s stock, usually payed quarterly or semi-annually. Not all stocks pay dividends.
Earnings per Share (EPS) – This is a financial measure that is calculated by dividing the company’s total net profit by its total number of outstanding shares.
Expense Ratio (ER) – A fund determines the expense ratio by dividing the cost of the fund’s operating expenses by the average dollar value if its assets under management (AUM).
Index Funds & Mutual Funds – Both of these funds will diversify your portfolio, however mutual funds usually have a higher fee. The main difference between the two is an index fund is a fund whose investments closely track a market index and are not actively managed.
Liquidity – This refers to how quickly and easily an asset or security can be converted into cash.
Margin of Safety – Simply put, this is the practice of buying investments at a lower price than the valuation.
Payback Time (or Payback Period) – This is the amount of time it takes an investment to reach a break even point.
Price-to-Earnings Ratio (P/E Ratio) – This can be calculated by dividing the stock price per share by the earnings per share. This can be used to determine whether you are paying a fair price for a stock and the market value of a stock compared to the company’s earnings.
Prospectus – This is a disclosure document that the SEC requires to be filed detailing material information about an investment offering to the public.
Return on Invested Capital (ROIC) – This is a profitability or performance ratio that measures the percentage return that a company earns on invested capital.
Target-date Fund – These are funds that are structured to address an investor’s capital need at a future date. These funds typically start out more aggressive in the beginning and get more conservative as that date approaches.
Tax-deferred – Investments earning that accumulate tax-free until the investor receives the profits.
Volatility – The statistical measure of the distribution of returns of a particular security or market index. It is a way of measuring the riskiness of a security.