20 Investment Terms Every Investor Needs to Know
New investors are often faced with many terms that they may not know or understand. While this may seem intimidating, it’s important to learn common financial phrases and terms when you start investing to help raise your confidence and ensure you’re making informed decisions. The following 20 terms will appear quite often, so keep reading to get a good start to your investing journey.
An asset is any form of investment that has the potential of making a return, such as a stock, bond, ETF, mutual fund, real estate, and more. Asset allocation is the practice of balancing your investments to limit risk. This is done by diversifying your portfolio with different types of assets that maximize reward and minimize risk.
Asset prices are sometimes given in a “Bid/Ask” format. The “Bid” represents the highest price a buyer is willing to offer and pay for an asset. The “Ask” is the lowest price a seller is willing to accept for an asset.
A bear market is one that is falling or trending lower. This can happen during times of recession or public crisis and can last anywhere from weeks to years. If you think the market is going to drop, you’d be considered a “bear.” This description can also be applied to individual stocks you believe will fall, in which case you’d be “bearish” on the stock.
A bond is similar to a loan with some key differences. In the case of a bond, the buyer is the lender, and the seller is the borrower. Generally speaking, the bond issuer or seller is a government body or a corporation. When they issue the bond, they promise to repay a principal amount, which is the amount of money they are borrowing, in the future on a maturity date. Additionally, they will pay interest periodically to the bond buyer based on a rate called the coupon rate.
A bull market is one that is rising or trending higher. If you think the market is going to rise, you’d be considered a “bull.” If you believe an individual stock will go up, you’d be “bullish” on the stock.
Capital gain or loss
A capital gain is a profit or return on an investment. For example, if you bought a share of a stock for $500, and then sold it at $900, you would have made a capital gain of $400. A capital loss works in a similar way – if you bought a share of stock for $500 and sold at $200, your capital loss would be $300.
Some companies pay out a portion of their income to shareholders, which is called a dividend. Depending on the company, dividends may be a one-time payment, may be sent periodically (i.e., every month, quarter, half-year, or year), or may not be paid out at all.
“Earnings Before Interest & Taxes” (EBIT) and “Earnings Before Interest, Taxes, Depreciation & Amortization” (EBITDA) are two commonly-used metrics that represent a company’s profits excluding certain costs. The metrics are believed to represent the company’s core earnings.
Exchange-traded funds (ETFs)
As an investor, you can buy and sell shares of ETFs just as you do with stocks. But buying a share of an ETF gives you some ownership to a fund of different assets, while buying a share of stocks gives you some ownership to individual companies.
A hedge fund, like a mutual fund, is an investment vehicle that uses pooled funds to generate returns. The difference between mutual funds and hedge funds is that hedge fund portfolio managers are part of a firm (limited partnership or LLC) and raise money from investors, which they then manage and invest across different assets. Unlike mutual funds, not everyone can invest in hedge funds; to be considered, you generally need to earn a minimum annual paycheck of $200,000+.
An index measures the performance of a group of assets, such as stocks, bonds, and more. Some of the most well-known indexes include the Nasdaq-100, Nasdaq composite, S&P 500, and Dow Jones Industrial Average.
An index fund is a mutual fund that is made up of assets in a way that mirrors a certain index. For example, if you are invested in a Nasdaq-100 index fund, and the Nasdaq-100 goes up, so will the value of your index fund. Since these types of funds are passively managed, the fees will be lower than investing in a typical mutual fund.
Individual retirement account (IRA)
An IRA is a type of retirement account that comes in various formats and offers a tax advantage for retirement savings. You can open an IRA as soon as you turn 18, but you may not have access to every type of IRA immediately.
A company’s market cap is the cumulative value of all of its outstanding shares. The market cap can be calculated by multiplying the company’s current share price by the number of shares outstanding.
When you open a brokerage account to invest, you will have to choose whether you want a cash or margin account. Margin is basically using borrowed money to invest. The credit will come from the broker, and your entire account is considered collateral. The hope is that you will be able to make a higher return with the borrowed money than the interest rate charged by the broker for the margin loan, so the investor will earn a personal profit.
A mutual fund is a pooled portfolio managed by a professional portfolio manager. This manager uses the pooled fund to buy a diversified portfolio of securities. The pooled funds come from individual investors who purchase shares of the mutual fund. Mutual funds are actively managed, leading to higher fees than if you were to invest on your own.
Price-to-earnings (P/E) ratio
A P/E ratio is a valuation metric that determines the value of a company relative to its earnings, often expressed on a per share basis. For example, if a company’s stock is trading at $100 per share, and is expected to earn $4 per share, its P/E ratio would be 25.
Shares, also known as stocks or shares of stock, are a portion of ownership of a company’s equity. The value of a share is based on how the company divided its equity into units. Shares entitle the share owner to a portion of the company’s profits (or gain in stock price). This also applies to a drop in the stock price, as the value of the share will go down with it.
When you short a stock, you borrow shares of stock and sell them at their current price with the promise to return the shares to the lender in the future. The hope is that the stock price will drop, at which point you can buy the shares of stock to return to your lender, making a profit on the difference between where you sold and bought the shares. Instead, if the stock price goes up, you will lose money when returning the shares to the lender.
Volatility is the degree to which a traded asset varies or fluctuates in price over time.
Now that you have an understanding of basic investing terms, what’s next?
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.