Some frequently used wealth management terms, defined.
Alternative Investments: Liquid alternative investments (liquid alts) are mutual funds that aim to provide investors with diversification and downside protection through exposure to different investment strategies than traditional asset classes. They are liquid, meaning that they can be bought and sold daily, unlike customary alternatives which offer monthly or quarterly liquidity. They come with lower minimum investments and fees than the typical hedge fund and investors don't have to pass net worth or income requirements in order to invest.
Asset Allocation: Investment strategy that seeks to balance risk and reward by apportioning a portfolio’s assets according to an individual’s goals, risk tolerance and investment horizon. Equities/stocks, bonds/fixed income, alternatives and cash/cash equivalents are four primary asset classes.
Business Confidence/Sentiment: A measure of the level of optimism businesses have about the performance of the economy. Business confidence is typically high when GDP growth is strong and business leaders feel good about the prospects of their companies.
Commodities: Any good exchanged during commerce, which includes goods traded on a commodity exchange. Examples of commodities include corn, oil, gold, live cattle and coffee.
Consumer Confidence: A measure of the level of optimism consumers have about the performance of the economy. Consumer confidence is typically high when the unemployment rate is low and gross domestic product (GDP) growth is strong.
Consumer Price Index (CPI): A measure that examines the weighted average prices of a basket of consumer goods and services (such as transportation, food and medical care). Changes in CPI are associated with the cost of living.
Core: The portion of a core and satellite investment portfolio that is invested in core. One example of core investments could include the individual securities within a portfolio that holds individual stocks and bonds along with complimentary mutual funds.
Corporate Bond: A debt security issued by a company. The backing for the bond is usually the payment ability of the company’s earnings from future operations. In some cases, the company’s physical assets may be used as collateral for bonds. Corporate bonds are considered higher risk than government bonds, so interest rates are almost always higher.
Credit Risk: The potential for a loss of principal stemming from a borrower’s failure to repay a loan or otherwise meet a contractual obligation. Credit risk arises when a borrower is expecting to use future cash flows to pay a current debt. Investors are compensated for assuming credit risk by way of interest payments from the borrower or issuer of a debt obligation. Credit risk is closely tied to the potential return of an investment, the most notable being that the yields on bonds correlate strongly to their perceived credit risk.
Developed Markets: Includes countries with a high national income, defined by World Bank as a gross national income per capita of $12,236, a formal market and regulatory environment, a stable and transparent financial system, and broad depth to their markets.
Dividend Yield: A financial ratio that shows how much a company pays out in dividends each year relative to its share price. In the absence of any capital gains, the dividend yield is the return on investment for a stock. Dividend yield is calculated as annual dividends per share divided by price per share.
Duration Risk: A measure of the sensitivity of the price (the value of principal) of a fixed income investment to a change in interest rates. The longer period of time to maturity, the more sensitive it is. Duration risk is associated with interest rate risk and reinvestment risk.
Earnings Growth: Percentage change in earnings per share over an annualized period.
Emerging Markets: Countries with social or business activity that is in the process of rapid growth and industrialization. Emerging markets generally do not have the level of market efficiency and strict standards in accounting and securities regulation to be on par with advanced economies (such as the United States, Europe and Japan), but emerging markets typically have a physical financial infrastructure including banks, a stock exchange and a unified currency.
Equity: A stock or any other security representing an ownership interest. Stocks have the highest expected risk and returns relative to the other primary asset classes.
Equity Risk Premium: The excess return an asset or the overall market provides over a risk free rate. This excess return compensates investors for taking on the relatively higher risk of the asset. The size of the premium will vary as the risk in a particular asset, or in the market as a whole, changes. Higher risk investments are compensated with a higher premium.
Euro: The official currency of the European Union (EU), currently in use in 16 of the 27 States. Eurozone constituents include: Austria, Belgium, Bulgaria, Cyprus, Croatia, the Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Latvia, Lithuania, Luxembourg, Malta, the Netherlands, Poland, Portugal, Romania, Slovakia, Slovenia, Spain, Sweden and the United Kingdom.
Fixed Income: An investment that pays a fixed interest rate, such as a certificate of deposit, bond, note or preferred stock. A fixed investment is the opposite of a variable rate investment.
Floating Rate: Bonds that have a variable coupon, equal to a reference rate, like LIBOR or Prime, plus a quoted spread. Floating rate bonds benefit lenders and investors in times of rising interest rates, and benefit borrowers in times of declining interest rates.
Gross Domestic Product (GDP): The total goods and services produced by a nation over a given period, usually one year. GDP is commonly used to measure the growth rate of an economy.
Government/Credit Index: An unmanaged index produced by Barclays Capital that tracks the performance of intermediate term U.S. government and corporate bonds that meet the requirements for inclusion.
High Yield: A subset of corporate bonds characterized by having a rating below investment grade (below BBB- or Baa3) or no rating at all. High yield bonds pay a higher interest rate because of their heightened credit risk.
Inflation: Increase in the overall level of prices over an extended period of time. Core inflation is most often calculated using the personal consumption expenditures (PCE), which eliminates products in the highly volatile energy and food sectors. This is the preferred measure by the Fed.
Interest Rate Risk: The risk that an investment's value will change due to a change in the absolute level of interest rates, the shape of the yield curve, or any other interest rate relationship.
Intermediate Index: An index of intermediate term has maturities from one to ten years. Intermediate Treasury and Intermediate Corporate are sub-indices containing only those asset classes indicated. An index of long term has maturities beyond ten years.
Investment/ Capital Spending: Money spent on capital goods, or goods used in the production of capital, goods or services. Investment spending may include purchases such as machinery, land, production inputs, or infrastructure. Investment spending should not be confused with investment, which refers to the purchase of financial instruments such as stocks, bonds, and derivatives.
Liquidity: The degree of how easily an asset or security can be bought or sold in the market without significantly changing the price. Money market is the most liquid investment.
Leading Economic Indicators: A measurable economic factor that changes before the economy starts to follow a particular pattern or trend. Leading indicators are used to predict changes in economic growth.
Low Interest Rate Environment: When the risk-free rate of interest, typically set by a central bank, is lower than the historic average for a prolonged period of time.
Market Capitalization (Cap): The total value of the tradable shares of a publicly traded company. As outstanding stock is bought and sold in public markets, capitalization can be used as a proxy for the public opinion of a company’s net worth. The formula for market cap is the share price times the number of shares outstanding. The market cap ranges are commonly defined as small-cap < $5 billion, mid-cap $5 to $10 billion, and large-cap > $10 billion.
Monetary Policy: The actions of a central bank, currency board or other regulatory committee that determine the size and rate of growth of the money supply, which in turn affects interest rates. Monetary policy is maintained through actions such as increasing the interest rate, or changing the amount of money banks need to keep in the vault (bank reserves). Related, fiscal policy refers to the actions of a government in regards to the budget, spending, taxation, and borrowing.
Mortgage Backed Securities (MBS): A type of asset-backed security that is secured by a mortgage, or more commonly a collection ("pool") of hundreds of mortgages. The structure of the MBS is known as "passthrough", where the interest and principal payments from the borrower or homebuyer pass through it to the MBS holder. Other types of MBS include commercial mortgages (CMBS), collateralized mortgage obligations (CMOs, often structured as real estate mortgage investment conduits) and collateralized debt obligations (CDOs).
Municipal 1-10 Year Index: The Barclays Municipal Managed Money Index is a rules-based, market-value-weighted tax-exempt bond market index. To be included, a bond must: 1) be rated Aa3/AA- or higher; 2) have an outstanding par value of at least $7 million and be issued as part of a transaction of at least $75 million, 3) be fixed rate; and 4) have been issued within the last five years, and must be at least one year from their maturity date. The benchmark does not include AMT, hospital, housing, tobacco, and airline bonds, nor remarketed issues, taxable municipal bonds, floaters, or derivatives, consistent with many portfolio managers.
Municipal Bonds: A debt security issued by a state, county or municipality to finance its capital expenditures. Municipal bonds can be exempt from federal, state and local taxes, especially if you live in the state in which the bond is issued.
Option Adjusted Spread (OAS): A measure of yield spread for fixed-income securities. This is a measurement tool for evaluating yield differences between similar products with different levels of risk or embedded options (call/put, etc). A larger OAS implies a greater potential return for taking additional risk.
Payout Ratio: The amount of earnings paid out as dividends to shareholders or through share buyback programs. It is calculated as dividends plus repurchases per share divided by earnings per share. A low payout ratio indicates that a company is primarily focused on growth by retaining its earnings.
Personal Consumption Expenditures (PCE): Measures spending on goods and services targeted toward and consumed by individuals.
Price to Earnings (P/E): A ratio calculated by dividing the current stock price by the earnings per share. Comparing the current P/E to historical average, or similar stocks indicates whether the stock is trading at a relative discount or premium. The historical P/E uses actual earnings data for the past 12 months. The forward P/E uses earnings estimates (forward EPS) for the next twelve months.
Real Disposable Income: The amount of money that households have available for spending and saving. It is calculated as wages minus inflation minus taxes.
Real Economic Growth: A measure of economic growth from one period to another expressed as a percentage and adjusted for inflation.
Recession: Two consecutive quarters of negative economic growth as measured by a country’s gross domestic product (GDP). The economic decline is typically visible in industrial production, employment, real income and wholesale-retail trade.
Real Estate Investment Trust (REIT): A security that sells like a stock on the major exchanges and invests in real estate directly, either through properties or mortgages. REITs receive special tax considerations and typically offer investors income, and a liquid method of investing in real estate.
Satellite: The portion of a core and satellite investment portfolio that is invested in satellite. One example of satellite investments could include the mutual funds within a portfolio that holds individual stocks and bonds and complimentary mutual funds.
Standard & Poor’s 500 (S&P 500) Index: A capitalization weighted index of 500 stocks chosen for market size, liquidity and industry grouping, among other factors. The S&P 500 is designed to be a leading indicator of U.S. equities and is meant to reflect the risk/return characteristics of the U.S. large-cap universe. Companies included in the index are selected by the S&P Index Committee, a team of analysts and economists at Standard & Poor’s.
SEC Yield: A standard yield is a standard yield calculation developed by the U.S. Securities and Exchange Commission (SEC) that allows for fairer comparisons of bond funds. It is based on the most recent 30-day period covered by the fund's filings with the SEC. The yield figure reflects the dividends and interest earned during the period after the deduction of the fund's expenses. It is also referred to as the "standardized yield."
Share Buyback: The repurchase of shares by a company in order to reduce the number of outstanding shares in the market. Companies will either buy back shares to increase the value of shares still available by reducing supply, or to eliminate any threats by shareholders who may be looking for a controlling stake.
Surprise Index: The Citi Economic Surprise Index is a data series that measures how data releases have generally compared to economists' prior expectations. When data is coming in weaker than expected, it declines below 0; when data is coming in stronger than expected, it rises above 0.
Unemployment Rate: The percentage of the total labor force that is unemployed but actively seeking employment and willing to work.
U.S. Dollar Weakness: A situation where the U.S. dollar's value is decreasing relative to another currency or a basket of foreign currencies over a sustained period of time. A weak dollar means our currency buys less of a foreign country’s goods or services, but our exports are more competitive in the global market.
Valuation: The process of determining the current worth of an asset or company. There are many techniques that can be used to determine value. For equities, the most common valuation metric to use is the P/E ratio, although other valuation metrics include: Price/Book Value, Price/Sales, Enterprise Value/EBIDTA, Economic Value Added and Discounted Cash Flow.
Yield Curve: A curve that plots interest rates of bonds with equal credit quality but differing maturity dates. Government bond yield curves are commonly used as predictors for economic output and growth.
Sources:Investopedia; About.com; Wikipedia; Federal Reserve Bank of Cleveland; Barclays Capital
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