Every term the series defines, A to Z. Each entry links to the chapter that explains it.
204Terms
22Chapters
- alpha
- the return above what the asset's beta and the market's return would predict.
- annuity
- a stream of equal payments at regular intervals for a fixed number of periods.
- asset allocation
- the split of a portfolio across asset classes such as stocks, bonds and cash.
- asset class
- a group of investments that behave alike because they pay for the same kind of risk, such as stocks, bonds or cash.
- assets under management
- the securities portfolios an adviser manages on a continuous basis; the measure that decides SEC or state registration.
- automatic stabilisers
- taxes and transfers that rise and fall with the economy without new legislation, cushioning booms and busts.
- backwardation
- a futures curve where later delivery months cost less than nearer ones; usual when inventories are tight.
- barbell
- a bond portfolio concentrated at the short and long end of the maturity range with little in the middle.
- basis point
- one hundredth of a percentage point; 25 basis points is a quarter point.
- basis risk
- the risk that a hedge and the exposure it covers do not move one for one.
- Bayes' rule
- the formula for updating a probability after seeing evidence, using the base rate and the chances of true and false alarms.
- behaviour gap
- the shortfall of investors' dollar-weighted returns below the funds' own time-weighted returns.
- beta
- how much an asset tends to move for each one-percent move in the market.
- breakeven inflation
- the inflation rate at which a TIPS and a nominal Treasury of the same maturity would return the same; about the nominal yield less the real yield.
- broker-dealer
- a firm that buys and sells securities for customers or for its own account; regulated by the SEC and FINRA.
- business cycle
- the recurring sequence of expansion, peak, contraction and trough in economic activity.
- call option
- the right to buy an asset at the strike price on or before expiry.
- cap rate
- net operating income divided by a property's value; the property's yield before debt and growth.
- CAPE
- the cyclically adjusted price-to-earnings ratio; price over ten years of average inflation-adjusted earnings, from Robert Shiller.
- capital market line
- the straight line of portfolios that mix the tangency portfolio with a riskless asset.
- CAPM
- the capital asset pricing model; expected return equals the risk-free rate plus beta times the market's risk premium.
- carry trade
- borrowing in a low-interest currency to invest in a high-interest one, earning the gap at the risk of a sudden currency fall.
- CDS-bond basis
- the CDS spread on an issuer minus the spread on its bond over a risk-free rate; negative when protection is cheaper than the bond's spread.
- clearing house
- an entity that becomes buyer to every seller and seller to every buyer, collecting margin so a member's failure does not spread.
- collateral yield
- the interest earned on the Treasury bills a futures fund holds against its positions.
- collateralised debt obligation
- a pool of bonds or loans that issues tranches of different seniority.
- conditional prepayment rate
- the share of a mortgage pool's remaining balance repaid early in a year, beyond scheduled principal.
- consumer surplus
- the gap between what buyers would have been willing to pay and what they paid.
- contango
- a futures curve where later delivery months cost more than nearer ones; usual when inventories are ample.
- convenience yield
- the benefit, as a yearly rate, of holding the physical good when supplies are tight; it pushes futures prices below spot.
- convexity
- the curvature of the line linking a bond's price to its yield; it makes price gains from falling yields larger than losses from rising yields of the same size.
- correlation
- a measure from minus one to plus one of how closely two returns move together.
- cost basis
- what you paid for an investment, adjusted for items such as reinvested dividends; the gain or loss is the sale price less it.
- cost of capital
- the return that lenders and shareholders require for funding a business; usually the weighted average cost of capital.
- cost of carry
- the interest and storage cost of holding a good until a future date, less any convenience yield; it links futures prices to spot.
- coupon
- the fixed interest payment a bond makes, quoted as a yearly percentage of face value.
- covenant
- a promise in a bond or loan contract that limits what the borrower may do.
- covered interest parity
- the no-arbitrage rule that the forward exchange rate equals spot times one plus the home rate, over one plus the foreign rate.
- credit default swap
- a contract in which one side pays a regular fee and the other pays the loss on a borrower's debt if a credit event occurs.
- credit spread
- the extra yield a bond pays over a Treasury of the same maturity, for the risk that the borrower fails to pay.
- current account
- a country's trade in goods and services plus income received from and paid abroad.
- custody
- holding client money or securities, or having authority to obtain them, including deducting fees from a client account.
- DCF
- discounted cash flow; a valuation that discounts forecast free cash flows at the cost of capital.
- debt service coverage ratio
- net operating income divided by the year's loan payments; DSCR.
- default
- a borrower's failure to pay interest or principal on time, or a distressed exchange that leaves lenders with less than promised.
- default correlation
- how much borrowers' defaults tend to happen together; it decides how pool losses split among tranches.
- delta
- the change in an option's value for a one-unit change in the underlying price.
- discount bond
- a bond trading below face value because market yields are above its coupon.
- disposition effect
- the habit of selling investments that have risen and holding those that have fallen.
- diversification
- holding assets that do not move in lockstep, so the whole swings less than the average of its parts.
- dividend
- cash a company pays to its shareholders out of profits.
- downside deviation
- a standard deviation that counts only returns below a chosen threshold.
- drawdown
- the fall from a previous peak to a later low, as a percentage of the peak.
- dual mandate
- the Federal Reserve's two statutory goals of maximum employment and stable prices.
- duration
- a measure of how much a bond's price changes when its yield changes; also the weighted average time until its cash arrives.
- duty of care
- the part of the fiduciary duty that asks for advice in the client's best interest, best execution and monitoring as the relationship calls for.
- duty of loyalty
- the part of the fiduciary duty that asks an adviser to put the client first and to disclose every material conflict so the client can consent.
- DV01
- the dollar change in a position's value for a one basis point change in yield.
- earnings yield
- earnings per share divided by the share price; the inverse of the P/E.
- economic moat
- a lasting competitive advantage that lets a company earn returns above its cost of capital for many years.
- economic profit
- profit after charging for all capital at its cost; the return on invested capital minus the cost of capital, times the capital.
- effective annual rate
- the yearly rate that gives the same growth as a rate compounded more often.
- effective duration
- duration measured by repricing at higher and lower yields, letting the cash flows change with rates.
- efficient frontier
- the set of portfolios with the highest expected return for each level of risk.
- equilibrium
- the price and quantity at which the amount buyers want equals the amount sellers offer.
- expected loss
- probability of default times loss given default times exposure at default; the average credit loss.
- expected shortfall
- the average loss in the cases worse than the value at risk.
- expected value
- the probability-weighted average of all outcomes; the long-run average over many repeats.
- factor
- a common source of return shared by many stocks, such as size, value or momentum, measured with a long-short portfolio.
- fallen angel
- a bond cut from investment grade to high yield.
- fat tails
- more frequent extreme outcomes than the normal distribution predicts.
- FFO
- funds from operations; a REIT's net income with real estate depreciation added back and gains on property sales removed.
- fiduciary
- someone who must act in another person's interest first, with full disclosure of conflicts.
- financial account
- a country's net purchases and sales of foreign assets, which fund any current-account gap.
- FINRA
- the Financial Industry Regulatory Authority, the self-regulatory body for brokers, formed in 2007.
- fiscal multiplier
- the change in GDP produced by each dollar of extra government spending or tax cuts.
- Fisher relation
- one plus the nominal rate equals one plus the real rate times one plus inflation.
- Form ADV
- the registration form every registered adviser files; Part 1 for regulators, Part 2A the brochure for clients, Part 2B the supplement on each advice-giver.
- Form CRS
- a short relationship summary on services, fees and conflicts that SEC-registered advisers and brokers give retail investors.
- forward contract
- a private agreement to buy or sell an asset on a set future date at a price fixed today.
- front-end load
- a sales charge taken once from the amount invested when buying mutual fund shares.
- future value
- what a sum invested today grows to after a number of years at a stated rate.
- futures contract
- an exchange-traded agreement to buy or sell a set amount of a good at a set price on a set future date, settled daily through margin.
- gamma
- the change in delta for a one-unit change in the underlying price.
- GDP
- gross domestic product, the market value of all final goods and services produced in a country in a period.
- general obligation bond
- a municipal bond backed by the issuer's taxing power.
- glide path
- a planned shift from stocks toward bonds as the date of a goal approaches.
- growth stock
- a stock priced at a high multiple because buyers expect fast-growing profits.
- hazard rate
- the yearly rate at which a borrower defaults, given it has survived so far.
- hedge ratio
- the number of futures units held per unit of the exposure being hedged.
- high yield
- a rating below investment grade; also called speculative grade or junk.
- immunization
- matching the duration of bonds to the timing of a liability so that rate moves affect both alike.
- implied volatility
- the volatility that makes a pricing model match an option's market price.
- in the money
- an option that would pay something if exercised now.
- indenture
- the legal contract between a bond's issuer and its holders.
- information ratio
- average return above a benchmark divided by the tracking error.
- initial margin
- the deposit an exchange requires to open a futures position.
- interest rate swap
- an agreement to exchange fixed-rate payments for floating-rate payments on a notional amount.
- internal rate of return
- the discount rate at which a project's net present value equals zero.
- intrinsic value
- what an option would pay if exercised now; never below zero.
- investment adviser
- a person or firm paid to give advice about securities as a business; owes a fiduciary duty under the Advisers Act.
- investment adviser representative
- an individual who gives advice on behalf of an investment adviser; licensed by the states, usually after passing the Series 65.
- investment grade
- a rating of BBB minus or above (Baa3 or above at Moody's).
- investment policy statement
- a written plan setting goals, the asset mix, the rebalancing rule and how decisions get made.
- ladder
- a bond portfolio with equal amounts maturing at regular intervals.
- limits of arbitrage
- the risks and costs that stop professional traders from correcting a mispricing at once.
- loan-to-value
- a property loan divided by the property's value; LTV.
- loan-to-value ratio
- debt divided by the value of the property or portfolio it finances.
- lognormal distribution
- the distribution of a quantity whose logarithm is normal; the usual model for prices, which cannot fall below zero.
- loss aversion
- feeling a loss more strongly than a gain of the same size; Tversky and Kahneman estimated about 2.25 times.
- loss given default
- the share of the exposure lost if a default happens; one minus the recovery rate.
- Macaulay duration
- the average time until a bond's cash flows arrive, weighted by their present values, in years.
- marginal cost
- the cost of producing one more unit.
- market structure
- how many firms sell in a market and how much power each has over its price, from perfect competition to monopoly.
- maturity
- the date a bond repays its face value and stops paying coupons.
- maximum drawdown
- the largest drawdown in a period.
- minimum-variance portfolio
- the mix of the available assets with the lowest standard deviation.
- moat
- a lasting advantage that protects a company's profits from competitors.
- modified duration
- the percentage price change for a one percentage point change in yield, with the sign reversed.
- momentum
- the tendency of stocks that rose most over the past year to keep outperforming for some months.
- mortgage-backed security
- a bond backed by a pool of mortgages, paying holders the interest, scheduled principal and prepayments.
- municipal bond
- a bond issued by a state, city or other public body in the US, usually free of federal income tax on its interest.
- myopic loss aversion
- loss aversion combined with checking results often, which makes risky assets feel worse than their long-run results.
- NASAA
- the North American Securities Administrators Association, through which state regulators coordinate; it writes the Series 63, 65 and 66 exams.
- negative convexity
- a price-yield curve that bends the wrong way, so prices rise less when yields fall than they drop when yields rise.
- net investment income tax
- a 3.8 % federal tax since 2013 on investment income for households above fixed income thresholds.
- net operating income
- a property's rent and other income less its operating costs (taxes, insurance, repairs, management), before debt payments; NOI.
- net present value
- the sum of all cash flows of a project, each discounted to today, with the cost entered as a negative.
- nominal yield
- a yield in plain dollars, with no adjustment for inflation.
- normal distribution
- the bell-shaped distribution set by its mean and standard deviation; about 68 percent of outcomes fall within one standard deviation.
- Okun's law
- the rule of thumb that output falls below potential by about two percent for each point that unemployment rises above its natural rate.
- output gap
- the percentage difference between actual GDP and potential GDP.
- par
- a price equal to face value, which happens when a bond's yield equals its coupon rate.
- par swap rate
- the fixed rate that makes a new swap worth zero to both sides.
- perpetuity
- a stream of equal payments that continues forever.
- Phillips curve
- the observed trade-off between unemployment and inflation in the short run, which weakens once people expect inflation.
- present value
- what a future sum is worth today, found by discounting at a stated rate.
- price elasticity of demand
- the percentage change in quantity bought for a one percent change in price.
- price-to-earnings ratio
- the share price divided by earnings per share over a year; P/E.
- probability of default
- the chance that a borrower defaults over a stated period, usually a year.
- purchasing power parity
- the idea that exchange rates adjust so that the same goods cost the same everywhere; it holds loosely over decades.
- put option
- the right to sell an asset at the strike price on or before expiry.
- put-call parity
- the rule that a European call minus a European put with the same strike and expiry equals the share price minus the discounted strike.
- qualified custodian
- a bank, broker-dealer or similar firm that holds client assets and sends statements straight to the client.
- qualified dividends
- dividends from US and many foreign companies, held long enough, that get long-term capital gains rates.
- real exchange rate
- the nominal rate adjusted for the two price levels; it measures how dear one country's goods are against another's.
- real interest rate
- an interest rate after taking out inflation.
- real return
- return after taking out inflation; what the money gained in buying power.
- real yield
- a yield measured over inflation; what a TIPS pays.
- rebalancing
- trading a portfolio back to its target weights after market moves have shifted them.
- rebalancing band
- a range around a target weight; a trade happens only when the weight leaves it.
- recovery rate
- the share of what they were owed that creditors get back after a default.
- reference point
- the level, often the purchase price, against which a person judges an outcome as a gain or a loss.
- Regulation Best Interest
- the SEC rule, in force from 30 June 2020, under which a broker recommending a security or account to a retail customer must act in that customer's best interest at the time.
- REIT
- a real estate investment trust, a company that owns income-producing property and pays out at least 90 % of its taxable income to avoid corporate tax.
- required minimum distribution
- the amount the holder of a tax-deferred retirement account must withdraw each year from the starting age, set by a life-expectancy table.
- return on invested capital
- operating profit after tax divided by the capital invested in the business.
- revenue bond
- a municipal bond backed only by the income from a specific project or system.
- risk capacity
- the financial ability to bear losses, set by horizon, income, other assets and how much a goal depends on the money.
- risk driver
- a force, such as interest rates or inflation, whose change moves an asset's price in a predictable direction.
- risk parity
- weighting assets so that each contributes the same share of the portfolio's risk.
- risk tolerance
- the willingness to bear losses, as the investor feels it.
- risk-neutral probability
- the probability that makes an asset's expected return equal the risk-free rate; options are priced as discounted expected payoffs under it.
- roll yield
- the gain or loss a futures holder makes by selling an expiring contract and buying a later one; negative in contango, positive in backwardation.
- securitisation
- pooling loans and selling bonds backed by their payments.
- security market line
- the CAPM drawn as a line of expected return against beta.
- Sharpe ratio
- average return above the risk-free rate divided by the standard deviation.
- SIPC
- the Securities Investor Protection Corporation, which restores missing customer assets when a member broker fails, up to set limits; it does not cover market losses.
- skew
- lopsidedness in a distribution; negative skew means the large moves tend to be losses.
- SOFR
- the Secured Overnight Financing Rate, the overnight rate on Treasury repurchase agreements published by the New York Fed, which replaced dollar LIBOR in swaps and loans.
- Sortino ratio
- average return above the risk-free rate divided by the downside deviation.
- specific risk
- risk tied to one company or issuer, which a broad portfolio diversifies away.
- spot price
- the price for delivery now.
- standard deviation
- a measure of how widely returns scatter around their average; about two years in three land within one standard deviation of the mean when returns are close to normal.
- standard error
- the uncertainty of an estimated average; the standard deviation divided by the square root of the sample size.
- step-up in basis
- the reset of an inherited asset's cost basis to its value on the date of death, which removes the tax on gains built up before it.
- strike price
- the price at which an option holder can buy (call) or sell (put).
- suitability
- the older broker standard: a recommendation must fit the customer's profile, without a duty to pick the best of the suitable choices.
- tangency portfolio
- the risky mix with the highest Sharpe ratio, where the capital market line touches the frontier.
- taxable-equivalent yield
- the yield a taxable bond must pay to match a tax-free bond after tax; the tax-free yield divided by one minus the tax rate.
- Taylor rule
- a formula that sets the policy rate from the neutral real rate, inflation, the gap between inflation and its target, and the output gap.
- terminal value
- the value of all cash flows beyond a DCF's forecast years, usually a Gordon growth value.
- theta
- the change in an option's value as one day passes, other inputs fixed.
- time value
- the part of an option's price above its intrinsic value, the value of the chance of a better outcome before expiry.
- TIPS
- Treasury Inflation-Protected Securities, whose face value rises and falls with the consumer price index.
- total return
- price change plus income received, as a share of the starting value.
- tracking error
- the standard deviation of the difference between a portfolio's return and its benchmark's.
- tranche
- one layer of a securitisation, with its own rank for receiving payments and taking losses.
- uncovered interest parity
- the hypothesis that a currency with a higher interest rate is expected to fall by the rate gap; it often fails in the data.
- value at risk
- the loss a portfolio should not exceed over a period at a stated confidence level, such as 95 percent over one year.
- value stock
- a stock priced at a low multiple of earnings or book value.
- variance
- the probability-weighted average of the squared distance of each outcome from the expected value.
- variation margin
- the daily cash payment of gains and losses on a futures or cleared swap position.
- vega
- the change in an option's value for a one-point change in volatility.
- VIX
- Cboe's index of the 30-day implied volatility of S&P 500 options, quoted in percent a year.
- wash sale
- a sale at a loss with a purchase of the same or a substantially identical security within 30 days before or after; the IRS defers the loss into the new shares' basis.
- weighted average cost of capital
- the cost of equity and the after-tax cost of debt, averaged by their weights in the company's financing; WACC.
- yield
- the return a buyer earns at today's price if the bond pays as promised and is held to maturity; also called yield to maturity.
- yield curve
- a line plotting the yields of bonds of one issuer, usually the US Treasury, against their maturities.
- yield curve inversion
- a spell in which short-term Treasury yields exceed long-term ones, often read as a sign of a coming recession.
- zero-coupon bond
- a bond that pays no coupons and returns its face value at maturity; its duration equals its maturity.
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