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Glossary of Investment Terms

Glossary of Investment Terms

You participate in a 401(k) retirement savings plan by deferring part of your salary into an account set up in your name. Any earnings in the account are federal income tax deferred.

If you change jobs, 401(k) plans are portable, which means that you can move your accumulated assets to a new employer’s plan, if the plan allows transfers, or to a rollover IRA. With a traditional 401(k), you defer pretax income, which reduces the income tax you owe in the year you made the contribution. You pay tax on all withdrawals at your regular rate.

With the newer Roth 401(k), which is offered in some but not all plans, you contribute after-tax income. Earnings accumulate tax deferred, but your withdrawals are completely tax free if your account has been open at least five years and you’re at least 59 1/2.

In either type of 401(k), you can defer up to the federal cap, plus an annual catch-up contribution if you’re 50 or older. However, you may be able to contribute less than the cap if you’re a highly compensated employee or if your employer limits contributions to a percentage of your salary.

Your employer may match some or all of your contributions, based on the terms of the plan you participate in, but matching isn’t required. With a 401(k), you are responsible for making your own investment decisions by choosing from among investment alternatives offered by the plan. Those alternatives typically include separate accounts, mutual funds, annuities, fixed-income investments, and sometimes company stock.

You may owe an additional 10% federal tax penalty if you withdraw from a 401(k) before you reach 59 1/2. You must begin to take minimum required distributions by April 1 of the year following the year you turn 70 1/2 unless you’re still working. But if you prefer, you can roll over your traditional 401(k) assets into a traditional IRA and your Roth 401(k) assets into a Roth IRA.

Active Management
The process of hand selecting securities with the purpose of trying to outperform a benchmark index. Active portfolio managers use economic data, investment research, market forecasts, and other indicators to help make investment decisions.

Annual Percentage Yield

Annual Percentage Yield (APY) is the effective annual rate of return taking into account the effect of compounding interest. The quoted rate assumes that the funds will remain in the investment for a full year (365 days). While similar to an APR (Annual Percentage Rate) it allows you to standardize different types of rates into an annualized percentage rate number.

Asset Allocation
Asset allocation is a strategy, advocated by modern portfolio theory, for reducing risk in your investment portfolio in order to maximize return. Specifically, asset allocation means dividing your assets among different broad categories of investments, called asset classes.
Stock, bonds, and cash are examples of asset classes, as are real estate and derivatives such as options and futures contracts. Most financial services firms suggest particular asset allocations for specific groups of clients and fine-tune those allocations for individual investors.

The asset allocation model — specifically the percentages of your investment principal allocated to each investment category you’re using — that’s appropriate for you at any given time depends on many factors, such as the goals you’re investing to achieve, how much time you have to invest, your tolerance for risk, the direction of interest rates, and the market outlook.

Asset Class
Refers to the categorization of an asset. Representative asset classes include stocks, bonds, commodities, etc.

Basis Point
Measurement used to quote bonds. One basis point is equal to 0.01%, or one one-hundredth of one percent. 100 basis points is equal to 1%, whereas 50 basis points would equal one half percent, or 0.50%.

A standard index used for measuring the performance of an investment. The goal of most money managers and investors is to outperform their respective benchmark.

A beneficiary is the person or organization who receives assets that are held in your name in a retirement plan after your death. If you have established a trust, the beneficiary you name receives the assets of the trust. A retirement plan, such as an IRA or 401(k), pays your beneficiary the value of the accumulated assets or requires the beneficiary to withdraw assets either as a lump sum or over a period of time, depending on the plan.

Some retirement plans require that you name your spouse as beneficiary or obtain written permission to name someone else. You may name any person or institution — or several people and institutions — as beneficiary or contingent beneficiary of a trust, a retirement plan, annuity contract, or life insurance policy. A contingent beneficiary is one who inherits the assets if the primary beneficiary has died or chooses not to accept them.

A debt instrument issued by corporations and governments to raise capital. Interest on the outstanding debt is paid to bondholders at specific intervals, with the principal amount of the loan paid on the bond maturity date.

Closed-End Fund
Closed-end mutual funds are actively managed funds that raise capital only once, by issuing a fixed number of shares. Like other mutual funds, however, fund managers buy and sell individual investments in keeping with their investment objectives. The shares are traded on an exchange and their prices fluctuate throughout the trading day, based on supply, demand, and the changing values of their underlying holdings.

Goods that are essentially uniform across producers. Typical examples include grains, beef, oil and natural gas. Products like textiles and electronics will vary in quality, but commodities are essentially interchangeable.

Generating earnings from previous earnings by reinvesting earnings in the original investment vehicle.

A statistical measure of how two securities move in relation to one another. The correlation coefficient, or indicator of related movement, ranges from 1 to -1. A correlation coefficient of 1 indicates the securities move exactly the same way at the same time, and -1 means they move exactly opposite. A correlation coefficient of 0 indicates the securities’ movement is not related at all. Extreme 1 and -1 correlation coefficients are rare.

Interest rate on a debt security the issuer promises to pay to the holder until maturity, expressed as an annual percentage of face value.

CUSIP Number
Identifying all stocks and registered bonds, using the Committee on Uniform Securities Identification Procedures (CUSIP). Brokers use a security’s CUSIP number to get further information.

Distribution Yield (TTM)
The trailing 12-month’s income distributions divided by the sum by the last month’s ending NAV, plus any capital gains distributed over the same period, is the distribution yield (TTM).

A risk management technique involving mixing a variety of investments within a portfolio. The theory suggests that a diversified portfolio will, on average, pose a lower risk and yield higher returns than any individual investment in the portfolio.

A distribution of earnings to shareholders, prorated by class of security and most commonly paid in the form of cash or stock. The amount is decided by the board of directors and is usually paid quarterly. Dividends must be declared in the year they are received.

Dividend Yield
The distribution rate of a fund calculated by dividing the amount of the dividends per share by the per share market price of the fund. For example, a fund price of $20 that pays a $2 dividend per year has a 10% dividend yield.

Dollar-Cost Averaging
Method of accumulating assets by investing a fixed amount of dollars in securities at set intervals.

Emerging Market
Refers to the financial market or economy of a developing nation, which is often new or has a short history.

Equity is another word for stock or any security representing an ownership interest.

Exchange-Traded Fund

ETFs are an emerging class of low-cost index funds that trade like stocks. Inexpensive, tax-efficient, and flexible, they offer investors instantaneous exposure to local or global indexes via a single trade. Sometimes referred to as “tracking stocks.”

Expense Ratio
The expense ratio includes investment management administrative costs and 12b-1 fees. The expense ratio does not include the cost of acquiring a fund, such as commissions and loads.

Foreign Stock
Stock issued from a corporation organized under the laws of a foreign country. Tax statement provided to customers at the end of the year for use in tax preparation.

Global Fund
A type of mutual fund, closed-end fund, or ETF designed to give exposure to any international or emerging market, including the United States.

Gold Fund
A type of mutual fund or ETF designed to give exposure to gold related securities. This can include stocks in companies engaged in the production, processing, or mining of gold. Often used to hedge against inflation and currency risks.

Gross Expense Ratio
The gross expense ratio of a fund is calculated by dividing the total gross expenses (net expenses with waivers added back in) by the fund’s average net assets. If it is not equal to the net expense ratio, the gross expense ratio portrays the fund’s expenses had the fund not waived a portion, or all, of its fees. Thus, to some degree, it is an indication of fee contracts.

Growth and Income Fund
A mutual fund, closed end fund, or ETF with both the growth of capital and income as the primary investment objective.

Growth Fund
A mutual fund, closed end fund, or ETF with the growth of capital as the primary investment objective.

High-Yield Bonds
Bond that has a rating of BB or lower and that pays a higher yield to compensate for its greater risk.

Income Fund
A mutual fund, closed-end fund, or ETF that has generating income as the primary investment objective. Income can be derived from various sources, including interest, dividends and capital gains.

A statistical measure used to track the aggregate performance of stock, bond, and commodities markets. Widely followed indexes include those developed and managed by Standard & Poor’s, Russell, and Dow Jones.

Index Fund
A mutual fund or ETF that seeks to match the exact performance of a specific market or benchmark index. Index funds are sometimes referred to as passive funds, and are popular for their tax efficiency and low fees. Popular index funds include those that track the S&P, Russell, and Dow Jones indices.

The rate at which the general level of prices for goods and services rises. Increasing prices lead to decreasing buying power.

Investment Expenses
Investment expenses are expenses connected with the production of investment income, such as amounts paid for management of securities. Investment expenses do not include investment interest expense, or any expenses associated with a passive activity.

Investment Grade
Bonds whose issuers are rated AAA to BBB by Standard & Poor’s or Moody’s Investors Service for safety and ability to repay principal.

Investment Style
Indicates the approach of an investment manager in selecting securities. For example, a certain manager may be value oriented, whereas another may emphasize growth.

Large Cap
Refers to companies with a market capitalization over $5 billion.

Using borrowed capital, such as margin, to increase the potential return of an investment while also increasing the potential risk. In real estate terms, leverage is the amount of debt used to finance assets and operations. A company with greater debt than equity is known as being “highly leveraged”.

Lipper, Inc.
Lipper provides financial data and performance analysis for more than 30,000 open- and closed-end mutual funds and variable annuities worldwide. The company evaluates funds on the strength of their success in meeting their investment objectives and identifies the strongest funds in specific categories as Lipper Leaders. The research company’s mutual fund indexes are considered benchmarks for the various categories of funds

Market Capitalization
Market capitalization is calculated by taking the total shares outstanding multiplied by the current market price of one share. This value is used when designing a portfolio strategy as a basis for risk/return and asset allocation parameters.

Mid Cap
Refers to companies with a market capitalization between $1 billion and $5 billion.

Money Market
A mutual fund that sells its shares to purchase short-term securities. Income from the purchase is distributed among fund shareholders, often via additional shares in the fund.

Morgan Stanley Capital International, Inc.
Morgan Stanley Capital International, Inc. (MSCI) distributes index and company-level data and also licenses the MSCI indexes to third parties for the purposes of creating mutual funds, listed and OTC derivatives, exchange-traded funds, research and proprietary products.

Morningstar Ratings Summary
Morningstar rates mutual funds from one to five stars based on how well they’ve performed (after adjusting for risk and accounting for sales charges) in comparison to similar funds.
Within each Morningstar category, the top 10% of funds receive five stars and the bottom 10% receive one star. Funds are rated for three-, five-, and 10-year periods, and these ratings are combined to produce an overall rating. Funds with less than three years of history are not rated.

Ratings are objective, based entirely on a mathematical evaluation of past performance. They’re a useful tool for identifying funds worthy of further research, but shouldn’t be considered buy or sell signals.

Mutual Fund
A mutual fund is a professionally managed investment product that sells shares to investors and pools the capital it raises to purchase investments.

A fund typically buys a diversified portfolio of stock, bonds, and money market securities, or a combination of stock and bonds, depending on the investment objectives of the fund. Mutual funds may also hold other investments, such as derivatives.

A fund that makes a continuous offering of its shares to the public and will buy any shares an investor wishes to redeem, or sell back, is known as an open-end fund. An open-end fund trades at net asset value (NAV). The NAV is the value of the fund’s portfolio plus money waiting to be invested, minus operating expenses, divided by the number of outstanding shares.

Load funds — those that charge upfront or back-end sales fees — are sold through brokers or financial advisers. All mutual funds charge management fees, though at different rates, and they may also levy other fees and charges, which are reported as the fund’s expense ratio. These costs plus the trading costs, which aren’t included in the expense ratio, reduce the return you realize from investing in the fund.

Net Asset Value
The Net Asset Value figure represents a fund’s total asset base, combined value of fees and expenses, divided by the number of shares outstanding minus fees and expenses.

Net Expense Ratio
The Net Expense Ratio figure represents the percentage of fund assets used to pay for operating expenses and management fees, including 12b-1 fees, administrative fees, and all other asset-based costs incurred by the fund excluding brokerage costs.

Mutual fund offered by an open-end investment company that imposes no sales charge (load) on its shareholders. (All funds offered in your Plan are in this category).

Passive Management
A market strategy that involves selecting a benchmark index to assure investment performance is the same as the underlying index. Passive investing assures that an investor will not under perform (or outperform) a market index. Passive management is opposite of active management.

Required by securities laws and issued by mutual fund companies and ETFs, the prospectus is a legal document that discloses the investment objectives of the fund, operating history, fund management, management fees, portfolio holdings, and other related financial data. Brokers are required to give a prospectus to investors before they invest.

Qualified Retirement Plan
Tax-deferred plan set up by an employer for employees under 1954 IRS rules. Such plans usually provide for employer contributions and may also allow employee contributions. They build up savings, which are paid out at retirement or on termination of employment. The employees pay taxes only when they draw the money out. When employers make payments to such plans, they receive certain deductions and other tax benefits.

Real Estate Investment Trust. REITs allow investors to invest in real estate, either through properties and mortgages, with a higher degree of liquidity because REITs sell on major exchanges like stock.

Russell Indexes
In 1984, Frank Russell Company created the Russell family of stock indexes as part of a more accurate and comprehensive system for evaluating the performance of investment managers. Russell now maintains 21 U.S. stock indexes and has launched similar broad-market and style indexes in Japan.

S&P 500
Standard & Poor’s (S&P) is a company that rates stocks and bonds according to risk. The S&P 500 is an index of 500 stocks chosen by S&P to represent the risk and return of large cap companies overall in the market. It is widely acknowledged as a leading indicator of U.S. equities.

SEC Yield
A yield calculation developed by the SEC to standardize yield data for mutual funds, closed-end funds and ETFs. The calculation uses the fund’s net investment income over the last 30 days, minus income generated from capital gains or other sources. SEC yields are often quoted for bond funds.

Small Cap
Refers to companies with a market capitalization between $300 million and $2 billion.

A type of security indicating partial ownership of a corporation. Owners of stock are entitled to claim a portion of the company’s assets and earnings.

Treasury Bills
Short-term securities with maturities of one year or less issued at a discount from face value.

Treasury Bonds
Long-term debt instruments with maturities of 10 years or longer issued in minimum denominations of $1,000.

Treasury Inflation Protection Securities
Bonds issued by the U.S. Treasury that hedge the purchaser against the impact of inflation by semi-annually increasing the par value of the issue by the amount of inflation. These securities represent a real, inflation-adjusted yield. Because of this the coupon on TIPS is significantly lower than a non-TIP security.

Treasury Notes
Intermediate securities with maturities of 1 to 10 years. Denominations range from $1,000 to $1 million or more. The notes are sold by cash subscription, in exchange for outstanding or maturing government issues, or at auction.

Relates to the frequency with which a money manager is buying and selling securities within a fund portfolio.

High turnover translates into higher trading costs, which fund investors must pay. Low portfolio turnover is better because it lessens the impact of trading and tax related costs.

The term volatility indicates how much and how quickly the value of an investment, market, or market sector changes.

For example, because the stock prices of small, newer companies tend to rise and fall more sharply over short periods of time than stock of established, blue-chip companies, small caps are described as more volatile.

The volatility of a stock relative to the overall market is known as its beta, and the volatility triggered by internal factors, regardless of the market, is known as a stock’s alpha.

Yield is the rate of return on an investment expressed as a percent. Yield is usually calculated by dividing the amount you receive annually in dividends or interest by the amount you spent to buy the investment.

In the case of stocks, yield is the dividend you receive per share divided by the stock’s price per share. With bonds, it is the interest divided by the price you paid. Current yield, in contrast, is the interest or dividends divided by the current market price.

In the case of bonds, the yield on your investment and the interest rate your investment pays are sometimes, but by no means always, the same. If the price you pay for a bond is higher or lower than par, the yield will be different from the interest rate.