Investments 101: Know Your Vocabulary
Investments 101: Know Your Vocabulary
If you’re starting to invest, one of the first steps should be to familiarize yourself with some basic terms. This reference guide can help:
Asset allocation-Dividing your money among the basic asset classes–growth, fixed-income, and cash investments–to match your financial goals. This diversification can help investors control risk and improve the probability of achieving and expected return.
Bear market–A term that describes a prolonged period of declining stock prices.
Blue chip–A company that is a well-known corporation with a long history of growth and profits; higher quality relative to smaller or less established organizations.
Bull market–A term that describes a prolonged period of rising stock prices.
Buying on margin–Buying on a loan; you’re borrowing the money from a brokerage house to buy stocks. This is very risky behavior.
Capital gains–The amount of money you make on an investment when you sell it.
Capital loss–The amount of money you lose on an investment when you sell it.
Diversification–Spreading your money among a variety of investment types, rather than putting your money all in one place. This can reduce the risk of a decline in the overall portfolio from a decline in any one investment or category. For example, you may choose a mix of stocks, bonds from different issuers within technology, financial services, health care, and international investments.
Dividends–The portion of the company’s profit paid out to its shareholders.
Dollar-cost averaging–A method of buying mutual fund shares by investing the same amount of money on a regular schedule (for example, $50 a month), regardless of market price. This can reduce average share costs to investors who acquire fewer shares when prices are higher and more shares when prices are lower.
Nasdaq–The National Association of Securities Dealers Automated Quotations system; computerized stock market where trades are negotiated directly between buyers and sellers.
Portfolio–Consists of all the assets you own and represents the choices you’ve made with your money.
Prospectus–A legal document containing information about a mutual fund or other types of investments. It describes the investment’s objective, management style, performance over the past 10 years, background of its officers, and expenses.
Rebalancing–Periodically revising your portfolio’s asset allocation to keep it in line with your investment plan.
Risk tolerance–Every investor has the ability to tolerate a certain amount of change in their portfolio’s value, including short-term losses from market declines. Usually, younger investors can tolerate more risk because they have more than ample time to recover from these short-term losses. Vice versa for older investors. Conservative investors simply don’t want to experience any declines. More aggressive investors tolerate losses well because they are confident that they will recover before they are required to sell their investments. Where an investor falls on the spectrum between aggressive and conservative is called an investor’s risk tolerance.
Time horizon–The length of time before you must sell investments to raise cash to meet spending requirements. Some time horizons are short, like investing for a vacation next year. Others are long, like investing for retirement. An investor with a long time horizon can usually take more risk, and vice versa. When you calculate your retirement investment time horizon, don’t make the mistake of ending it on the day you expect to retire. At that point as much as one-third of your life may still lie ahead of you and your spending needs will not stop on your retirement date!
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