Monitor Money's Financial Planning Dictionary

Active Management: A money-management approach that seeks to outperform the market through the application of informed, investment judgement. The opposite of passive management, or "indexing" which seeks to replicate market performance through the construction of a portfolio mirroring the composition of the market.
Assets: When talking about investment, assets refers to the four general classes of investment: shares, bonds, property and cash.

Asset allocation: The mix of stocks, bonds, cash equivalents and other assets in which your capital is invested.

Balanced fund: see 'diversified fund'

Bonds: Bonds are certificates of debt issued by companies, governments and other organisations in order to raise funds. Bonds have a fixed repayment date and a fixed rate of interest. The price of bonds fluctuates as interest rates move.

Bond Funds: Due to the characteristic of bonds, Bond funds are a more volatile investment than cash but are considered a less volatile form of investment than shares.

Capital: Capital is the value of your investment at the beginning of a period. We invest that capital to produce both income and capital growth.

Capital Growth: Creating wealth is achieved by growing the value of your investment, not only by the generation of interest and dividends, but from capital appreciation of the shares, bonds and property within your investment.

Capital markets: The universe of publicly traded securities, including stocks, Treasury and agency bonds, mortgage-related securities, corporate and municipal fixed-income securities and money-market instruments.

Cash equivalents: Very short-term investments, coming due in a year or less - the maturity range of money-market funds and Treasury bills. Similar to cash in liquidity and safety from market volatility.

Correlation: The degree to which two assets behave in a similar manner under differing market conditions. The more similarly they behave, the greater their positive correlation; the more they behave in opposite ways, the greater their negative correlation. The less positively correlated two assets are, the more one will diversify the other - and the more the combination will lower an investor’s overall risk.

Cyclical: Short-to-medium term (3-5 years), demand-side economic effects on the business environment. Typical cyclical influences are the operation of monetary and fiscal policy, and capacity utilisation.

Derivatives: Securities whose values are linked to, or derived from, other securities. These include well-established instruments like futures and options, as well as newer, more complex vehicles, many related to mortgage-backed bonds. Taken as a whole, derivatives encompass a broad array of securities that span a gamut in risk from safer than most bonds to highly speculative.

Discount bonds: Bonds selling below face value because their interest payments are lower than prevailing interest rates.

Diversification: Investing in more than one type of asset at the same time for the purpose of lowering risk. A stock portfolio is diversified the more stocks (or types of stocks) it contains. An investor’s overall portfolio is diversified the more different asset classes it contains (domestic and foreign stocks, taxable bonds, municipal bonds, money-market instruments, etc.). The greater the diversification, all else equal, the lower the investor’s risk.

Diversified Fund: A diversified fund (or balanced fund) invests in more than one class of asset.

Duration: A measure of the interest-rate sensitivity of a fixed-income security, related to maturity and other factors, and expressed in years. Duration can be used to show how much a bond’s price can be expected to fall if interest rates rise by a certain percentage, or how much the bond’s price will rise if interest rates fall. For each year of duration, a bond’s value will drop (or rise) roughly 1% for every percentage-point rise (or drop) in rates.

Equities (stocks): Securities representing shares of ownership in the issuing enterprise, as distinct from fixed-income investments (bonds), which represent loans to the issuer.

Expected return: A measure of the value of an investment, taking account of its current price and the estimated future cash flow to the investor, including both change in price (capital gain or loss) and interest or dividends. The higher the current price in relation to future estimated cash flow, the lower the expected return; the lower the price in relation to future cash flow, the higher the expected return.

Fixed-income securities (bonds, notes, bills, etc.): Securities representing loans to governments, agencies, corporations and banks for a stated period at a fixed interest rate - as opposed to equities (stocks), which represent shares of ownership.

Fund (investment fund): A fund is a group of investments selected to meet a certain investment objective.

Fund manager (investment manager): A fund manager is a person or organisation that is responsible for the management of the investments in a fund. That includes researching and selecting markets, sectors and industries to invest in, deciding how much to invest in each sector, when to buy, when to sell, etc.

Growth: see 'capital growth'

Hedging (currencies): Eliminating some or all of one’s exposure to a foreign currency by trading that currency for Australian dollars.

Imputation Credits (Franked Dividends): Distributions which are paid by companies who have already paid tax on the company profits. The tax is paid at the prevailing company tax rate and is treated as a tax rebate in the hands of the investor. If the investor’s tax rate is greater than the company rate there will be additional tax to pay. If the investor’s tax rate is less than the company rate the excess tax paid can be used to offset other tax. Since 1 July 2000 it is possible to get a refund for any excess tax rebate that a taxpayer has generated.

Income: The aim of each fund is to increase the value of its investments. When this is paid out to investors as a cash payment, it is known as income. Not all investment funds provide income to investors. Some funds reinvest all income back into the fund, so it becomes part of the capital.

Liquidity: Liquidity relates to the ease with which an investment can be turned back into cash. Government bonds are an example of a very 'liquid' investment, because you can usually sell them at a moment's notice. Investment property, on the other hand, has low liquidity, as it takes time to sell a property and receive payment and has substantially higher transaction costs.

Market timing: Switching out of, or into, stocks or bonds according to one’s prognostication of how the markets will do in the short run.

Par bonds: Bonds selling at face value.

Portfolio: An investment portfolio is all the investments owned by one investor. A portfolio may consist of just one investment, or it may consist of a range of investment types (a diversified portfolio).

Portfolio investment: A portfolio investment is an investment that provides access to a broad range of asset classes.

Price/book value: The ratio of a stock’s current price to the company’s net worth (assets minus liabilities) per share. A lower price/book-value ratio than that of the average stock is often an indication of superior investment value, and vice versa.

Price/earnings, or P/E: The ratio of a stock’s current price to its earnings per share, either actual or forecasted. A lower P/E ratio than that of the average stock is often associated with superior investment value, and vice versa.

Property Funds: Funds that invest in property do not usually invest directly in individual properties, but in the shares of companies, or the units of trusts, that invest in property and property-type assets. This provides a very liquid exposure to very large and diversified property portfolios.

Return: Return is the overall profit you make on your investment, whether income, capital growth, or both. It is usually expressed as a percentage, eg. if you initially invested $100 and it is now worth $150, your investment has shown a 50% return.

Risk/reward tradeoff: The amount of return (or expected return) for the risk incurred, or the amount of return sacrificed to lower risk.

Shares: Shares represent an ownership interest in a company.

Share Funds: Share funds invest in companies, generally listed on stock exchanges. Shares (also known as 'equities') are usually considered the most volatile form of investment, but also tend to provide the greatest returns over the long term.

Standard deviation: The range around the mean value of a set of outcomes; the higher the standard deviation, the more uncertain the results and the less likely that any single outcome will fall at or near the mean.

Structural: Long term economic supply side influences on an economy. Typical factors influencing the structure of an economy are innovation, competitiveness and tariffs.

T-bills: Treasury bills (see "cash equivalents").

Total return: All the return an investment receives on a specific investment over a stated period, including realised or unrealised capital gain or loss, and dividends or interest; expressed as a percentage of the investment’s value at the beginning of the period. Total return is the true measure of investment results, as distinct from either income, yield or price appreciation alone, since total return measures the total change in value of an investment over a given period (aside from the investor’s own withdrawals or additions).

"Value" stocks: Stocks selling at low prices in relation to company assets, sales and earnings power (the kind of stocks favoured by "value investors").

Volatility: Most investments experience fluctuations in value. The degree of fluctuation is known as volatility. More volatile investments generally have the potential for greater returns.

Yield: One component of investment return. In fixed-income investments, current yield, one type of yield calculation, represents the interest payments of a security expressed as a percentage of its current market price. Yield to maturity, another widely quoted measure, uses a more complex formula that also factors in the difference between a security’s current price and its par value at maturity. Regardless, yield and total return often differ because of changes in interest rates, changes in credit quality and other events that cause capital gain or loss in bonds.

In stocks, yield means the current annual dividend expressed as a percentage of the current price of the stock. Here too, yield and total return differ, since return also includes price appreciation or loss. High yield in a stock means dividends are high in relation to current price.

Yield curve (or expected-return curve): The line connecting the yields of bonds from one end of the maturity spectrum to the other. Called a "curve" because yields typically rise sharply as maturity lengthens at the short end of the spectrum, and rise more gradually at longer maturities, so that if you draw a line connecting all the yields, it will generally be curved rather a straight diagonal.