Frequently Used Terms
Our industry vernacular can be difficult to navigate and understand. Therefore, this list is meant to improve and expand your understanding of financial terms and concepts. This will enable you, the client, to make more informed decisions and get the most out of working with your Advisor while fulfilling our commitment to transparency and clear communication.
Fiduciary – A person or entity legally appointed and authorized to manage assets in trust for another party. The fiduciary must manage the assets with the best interest of the asset owning party at all times.
Formula Investing – Investing by rigid adherence to a formula, which governs both asset allocation and timing.
- Quantitative Trading – Trading strategies based on quantitative and technical analysis that relies on mathematical computations based on tremendous amounts of aggregate data and current trends.
Securities – Financial investment instruments which are expected to represent value (stocks, bonds, ETFs, derivatives, etc.).
- Stocks – Represent fractional ownership of companies and for profit organizations. Can also be referred to as equities.
- Bonds – A debt investment in which an investor loans money to an entity (corporate or governmental) that borrows the funds for a defined period of time at a fixed interest rate.
Mutual Funds – A pooling of funds collected from many investors, which are in turn invested per the objectives of the fund. While they allow small investors access to professionally managed portfolios, funds typically have fees and are less liquid than ETFs.
ETFS – Exchange Traded Funds are similar to Mutual Funds in that they are pools of investments, but are dissimilar because they are not actively managed. ETFs are without fees and trade like stocks. In true laymen’s terms each ETF share represents fractions of the many shares/bonds that each ETF holds.
- Leveraged ETFs – ETF’s in which the performance of the underlying investments (indices) is amplified by a more volatile asset, identified by a ratio. Leveraged ETFs like their normal siblings are generally either bullish or bearish in flavor. A 2:1 S&P 500 ETF will grow by 2% on the days the S&P 500 gains 1%, it will lose 2% when the S&P loses 1%.
Portfolio – A combination of investment instruments, such as those listed above, designed to meet investment objectives while giving consideration to risk tolerance. Here at Caitlin John that means blending different weightings of model allocations. Each model contains securities that are either stocks or ETFs that meet the objectives of each model.
Risk Tolerance – The degree of uncertainty or downside (loss in value) that an investor is willing to accept in their portfolio. Lower risk investments, such as bonds, have less upside and downside potential. Higher risk securities such as high beta stocks, have more upside and downside potential.
Risk Premium – The amount of return or reward that is probable in exchange for taking on risk above the risk free rate. Risk premium is the compensation for tolerating greater risk.
Unsystematic Risk Vs. Systematic Risk – Unsystematic risk is the risk of individual industries or companies: systematic risk is the risk the entire market or “system” faces. If a new fabric was created that needed no cleaning it would be unsystematic risk to laundry detergent stocks but would not have impact on steel nor baby food ones. Conversely, if the treasury changed interest rates, that would represent a systematic risk, affecting all stocks.
Diversification – The objective of diversification is to eliminate unsystematic risk. Like the old saying “don’t put all your eggs in one basket” diversification seeks to minimize losses should any single basket or in our case investment fail. The objective of blending the allocation models here at Caitlin John is to create a truly diversified portfolio.
Standard Deviation – A measure of volatility or fluctuation. The higher the standard deviation, the more the price changed from the average price. In the graphs below, the grey lines indicate the performance of the asset over the specified period of time, and the colored lines indicate the averages along the same time periods. Make sure to check the vertical scale as well, as they differ for each graph. The standard deviation for the S&P over that period was calculated to be: 18.12%, the AGG: 2.38% and Netflix: 138.59%. This is a clear example how radical variations from the average, expected price is indicated in standard deviation, and how this can be used to easily depict volatility.
Sharpe Ratio – The risk premium on the portfolio (Expected return [minus] risk free rate) divided by the standard deviation of the portfolio. What can be inferred from the Sharpe Ratio is risk-adjusted performance. Risk is represented by the standard deviation or volatility in the denominator; its reward is the risk premium in the numerator. Thus, the larger the Sharpe ratio, the better the performance considering the risk. For the charts, above the Sharpe ratio is: for the S&P is .0284, for the AGG is .8715 and for Netflix is .1489. This is assuming a risk free rate of 3%.
Beta – A measure of systematic risk compared to either a specific industry benchmark or the market as a whole. No matter the benchmark chosen, it is assigned a beta of 1. The beta of portfolios or securities is set against the benchmark such that betas above 1 will be more volatile in up and down turns and betas below 1 will be less volatile in up and down turns. A portfolio with beta 1.5 is 50% more volatile than the benchmark, a portfolio with beta .5 is 50% less volatile than the benchmark.
Aggressive Investing – Aggressive investing is seeking higher returns and accepting increased risk; here at Caitlin John that means approximately an allocation beta of 1.3 compared to the S&P 500.
Conservative Investing – Conservative investing is seeking lower risk and accepting lower returns; here at Caitlin John that means approximately an allocation beta of less than 0.5 compared to the S&P 500.
Dividend – Reoccurring payment to shareholders in exchange for their investment.
Dividend Yield – The dividend divided by the market value of the dividend paying security. Higher is always better when dealing with dividend yields. Can also be referred to as the Dividend Price Ratio.
Market Capitalization – Also known as “Market Cap” is the total dollar market value of all of any company’s outstanding shares. This is calculated by multiplying the number of shares outstanding by the current market price of one share. Some common groupings for capitalization are:
- Small Cap – A market cap of less than 2 billion dollars
- Mid Cap – A market cap between 2 and 10 billion dollars
- Large Cap – A market cap of greater than 10 billion dollars
Long Vs. Short – Long positions are taken when prices are expected to rise, and profit is made by riding the upwards price movement. Short positions are not the polar opposite of long positions (that would be a sell position). Short positions, often called “shorts,” are investments in which a security is borrowed and sold with the expectation to replace the borrowed security at a later date for a lower price. The difference between the sell price and the replacement cost is where the profit is made.
Over Sold – A state in which price falls rapidly, often spurred by panic or overreaction to recent events, to a level below the true intrinsic value. This can be interpreted as buying opportunity. Too many people sold, driving the price too low.
Over Bought – A state in which price climbs rapidly, often spurred by hype or overreaction to recent events, to a level above the true intrinsic value. This can be interpreted as a short opportunity. Too many people bought, driving the price too high.
Technical Analysis – In-depth analysis of stocks utilizing various information sources such as prices, spreads, and volumes to determine market direction.
- Divergence – when price or volume movement conflicts with technical analysis findings.
- Golden Cross – when the short term moving average over takes the long term moving average. For example when the 15-day moving average overtakes the 200 day moving average.
- Rounding Bottom – a U shaped trend that may extend over a period of weeks or months. It is marked by a period of downward trending followed by a period of upward trending.
- Moving Average – a technical indicator, moving average shows the average value of a security over a period of time. They can reveal movement direction and can help quiet the “noise” from day to day fluctuations in price and volume. A 10 day moving average shows the average price over the last 10 days.
- Money Flow Index – a momentum technical indicator that determines the confidence of the money going in and out of a given investment and can be used to spot trend reversals.
Bull Market & Bullish Positions – A Bull market is a market in which prices are rising and expected to rise. Generally they are characterized by marked optimism, upwards corporate performance, and high investor confidence. Bullish positions are those investments that are poised to capitalize on this growth such as long positions on equities. It is possible to be Bullish on the market but not on a particular investment and vice versa.
Bear Market & Bearish Positions – A Bear market is a market in which prices are falling and expected to fall. Generally they are characterized by marked pessimism, downwards price movement, and low investor confidence. Bearish positions are either sell positions or short positions. It is possible to Bearish on the market but not on a particular investment and vice versa.
Technical Indicators – Also referred to as technicals, are the sophisticated analyses of securities derived from volume or price activity.
Capital Appreciation – Increase in value (market price) of a security due to a variety of reasons. Distinct from appreciation in value based on dividends, a stock split, or share buyback.
Asset Class – A group of securities that exhibit similar characteristics, behave similarly in the marketplace, and are subject to the same laws and regulations. These can include equities, fixed-income and cash equivalents.
Volatility – A statistical measure of the dispersion of returns for a given security or market index.
Market Index – An aggregate value produced by combining several stocks or other investment vehicles together and expressing their total values against a base value from a specific date. Market indexes are intended to represent an entire stock market and thus track the market’s changes over time.
Hedges – Making an investment to reduce the risk of adverse price movements in an asset. Normally, a hedge consists of taking an offsetting position in a related security.
Cash Equivalents – An item on the balance sheet that reports the value of a company’s assets that are cash or can be converted into cash immediately. Examples of cash equivalents are bank accounts, marketable securities and Treasury bills.
Data Securities – Exchange-traded corporate or government debt obligations, the proceeds of which are used to pay back initial loan. These are commonly referred to as bonds.
Capital Appreciation – A rise in the value of an asset based on a rise in market price. Essentially, the capital that was invested in the security has increased in value, and the capital appreciation portion of the investment includes all of the market value exceeding the original investment or cost basis. Capital appreciation is one of the two main sources of investment returns, with the other being dividend or interest income.
Asset Allocation – An investment strategy that aims to balance risk and reward by apportioning a portfolio’s assets according to an individual’s goals, risk tolerance and investment horizon.
High-yield Corporate Debt – Also known as junk bonds or speculative bonds, these are debt securities rated at “BB” or lower, because of high implied default risk. Since these are usually purchased for speculative purposes, these debt obligations generally offer interest rates three to four times higher than safer government issues.
Blue Chip – A nationally recognized, well-established and financially sound company. Blue chips generally sell high-quality, widely accepted products and services. Blue chip companies are known to weather downturns and operate profitably in the face of adverse economic conditions, which helps to contribute to their long record of stable and reliable growth.
Monte Carlo – A type of simulation where problem solving and statistics are combined to approximate the likely outcome of retirement scenarios using repetitive trials and randomized variables.
FNA – Financial Needs Analysis is a holistic and comprehensive examination of an individual or family’s financial situation and goals both present and moving forward.
Net Worth – Is a depiction of financial health, subtracting liabilities from assets. Usually excluding primary residence.
ADR – American Depositary Receipts are certificates issued by U.S banks representing shares of foreign companies traded on American exchanges. They are intended to decrease the administrative and duty costs levied on each transaction.
REIT – Real Estate Investment Trusts are a security that is traded like stock but represent ownership of property or mortgages. They often have special tax considerations and offer strong yields to investors.
Black Swan Event – A common metaphor representing a significant event that is wholly unexpected and only rationalized with hindsight. An example of a well known black swan event is the collapse of derivatives in 2008 and the flash crash of 2010.
Qualified – A plan that meets requirements of the Internal Revenue Code and as a result, is eligible to receive certain tax benefits. These plans must be for the exclusive benefit of employees or their beneficiaries.
Non Qualified – Does not meet the requirements of plans that are qualified. Non qualified plans are not tax incentivized.