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Financial Terms
Financial Terms
Preference Shares usually, non-voting capital stock that pays dividends at a specified rate
and has preference over common stock in the payment of dividends and the liquidation of
assets.
Debenture
A bond issued by a corporation which is secured by the general credit or promise to pay of the
issuer. It is not backed by collateral such as tangible assets.
Example:
1. A certificate or voucher acknowledging a debt.
2. An unsecured bond issued by a civil or governmental corporation or
agency and backed only by the credit standing of the issuer.
Derivatives:
Financial instruments, such as futures and options, which derive their value from underlying
securities including bonds, bills, currencies, and equities. Equity derivatives are financial
derivative products whose value is dependent on the value of an underlying share or group
of shares.
Underlying Security
The security that must be delivered when another security is exercised. For example, if a call
option is exercised, then the underlying stock is delivered to the call owner. Warrants, rights,
options, and convertible securities all have underlying securities. For futures options, futures
are the underlying security.
Futures
Investment contracts which specify the quantity and price of a commodity to be purchased or
sold at a later date. On contract date, the buyer must take physical possession or make
delivery of the commodity, which can only be avoided by closing out the contract(s) before that
date. Futures can be used for speculation or hedging.
Option
A contract that gives the owner the right, if exercised, to buy or sell a security or basket of
securities (index) at a specific price within a specific time limit. Usually, they are traded as
securities themselves, with buyers and sellers trying to profit from price changes. They are
generally available for 1 to 9 months, with some longer term options (called LEAPS) also
available for selected securities. Stock option contracts are generally for the right to buy or
sell 100 shares of the underlying stock (100 is the multiplier). Trading in options should only be
undertaken by sophisticated investors.
Call Option
A call option gives the owner the right, but not the obligation, to buy the underlying stock at a
given price (the strike price) by a given time (the expiration date). The owner of the call is
speculating that the underlying stock will go up in value, hence, increasing the value of the
option. The purpose can be to speculate with the option (hope it goes up and sell for a profit),
to invest in the underlying stock at a locked in price if the stock price goes high enough, or to
generate income. Each option contract equals 100 shares of stock. For example, an AAA MAR 65
call, would give the owner the right to buy 100 shares of AAA at $65 (strike price) per share
between now and the third Friday in March (expiration date).
Put Option
A put option gives the owner the right, but not the obligation, to sell the underlying stock at a
given price (the strike price ) by a given time (the expiration date). The owner is speculating
that the option will go up in value and the underlying stock will go down in value. The purpose
can be to either speculate with the option (hope it goes up and sell for a profit) or trade the
underlying stock at a locked in price if the stock price goes down enough. For example, an AAA
MAR 65 put would give the owner the right to sell 100 shares of AAA at $65 (strike price) per
share between now and the third Friday in March (expiration date).
Hedging
An investment strategy of lowering risk by buying securities that have offsetting risk
characteristics. A perfect hedge eliminates risk entirely. Hedging strategies lower return since
there is a cost involved in hedging. For example, a portfolio manager could short a futures
contract which will perfectly offset any decrease in the value of the portfolio. Options and
short selling stock can also be used for hedging. Hedge funds are investment pools that are free
to use any hedging techniques they desire and they often make large bets in a relatively small
number of different holdings.
Intraday Trading
Intraday share trading refers to the buying and selling (or vise versa) of the same script in the
same trading session ( on the same day).
Portfolio Management:
Where assets are combined into a portfolio that fits the investor's preferences (eg, level of
risk) and needs (eg, regular dividends).
The aim of Portfolio Management is to achieve the maximum return from a portfolio which
has been delegated to be managed by an individual manager or financial institution. The
manager has to balance the parameters which define a good investment ie security, liquidity
and return. The goal is to obtain the highest return for the client of the managed portfolio.
Blue Chip Companies:
A blue chip stock is the stock of a well-established company having stable earnings and no
extensive liabilities. Most blue chip stocks pay regular dividends, even when business is
faring worse than usual. They are valued by investors seeking relative safety and stability,
though prices per share are usually high.
Bond A long-term debt instrument on which the issuer pays interest periodically, known as
Coupon. Bonds are secured by COLLATERAL in the form of immovable property. While
generally, bonds have a definite MATURITY, Perpetual Bonds are securities without any
maturity. In the U.S., the term DEBENTURES refers to long-term debt instruments which are
not secured by specific collateral, so as to distinguish them from bonds.
Volatility
The measure of the tendency of prices to fluctuate widely. Prices of small companies tend to
be more volatile than those of large corporations. Beta is a measure of volatility.
Liquidity
The ability to turn an asset into cash. A highly liquid asset is easy to sell because an active
market exists that sets prices which are continuously adjusted for supply and demand. An
example is a listed stock or mutual fund. A less liquid asset is real estate or a collectible
Lot
A group of identical UNITS (for securities) or nearly identical units (for collectibles) of an
investment that are traded at the same time and price. Open lots are the contents of open
investments and can be long (buys) or short (short sell). Closed lots are the contents of closed
investments and can be long (sell) or short (buy to cover).
Net Asset Value (NAV)
The per share price of a mutual fund. For a no-load fund, NAV is the price received by both
buyers and sellers. For front loaded mutual funds, NAV is equivalent of the bid price (what
shareholders can get for selling a share), while the offering price is the price buyers must pay
per share (and includes front load). The NAV is usually calculated at the end of each trading
day by taking the closing prices of all securities owned plus cash and equivalents and
subtracting all liabilities then dividing by the number of shares outstanding, which for open-end
funds, fluctuates depending on daily number of redemptions and purchases. Many new funds
are issued at a NAV of $10. After a distribution, the NAV falls by the amount equal to the
distribution.
Depository A system of computerized book-entry of securities. This arrangement enables a
transfer of shares through a mere book-entry rather than the physical movement of
certificates. This is because the scrips are dematerialized or alternatively, immobilized
under the system.
Bear A person who expects share prices in general to decline and who is likely to indulge in
SHORT SALES.
Bear Market A long period of declining security prices. Widespread expectations of a fall in
corporate profits or a slowdown in general economic activity can bring about a bear market.
Bull A person who expects share prices in general to move up and who is likely to take a long
position in the stock market.
Transfer agent: The person or firm that cancels the shares in the name of the seller and
The complete lifecycle of a U.S equity trade : Order Capture, its execution in the market,
affirmation/confirmation, foreign exchange, clearing, settlement, and reporting.
Mutual Fund
Fund operated by an investment company that raises money from shareholders and invests
it in stocks, bonds, options, commodities or money market securities. The sum of the
collected amount is called Corpus.
Retained Earnings
Net profits kept to accumulate in a business after dividends are paid.
Custodian
A financial institution that has the legal responsibility for a customer's securities. This implies
management as well as safekeeping.
Bonus Shares The issue of shares to the shareholders of a company, by capitalizing a part of
the companys reserves. The decision to issue bonus shares, or stock DIVIDEND as in the U.S.,
may be in response to the need to signal an affirmation to the expectations of shareholders
that the prospects of the company are bright; or it may be with the motive of bringing down
the share price in absolute terms, in order to ensure continuing investor interest. Following a
bonus issue, though the number of total shares increases, the proportional ownership of
shareholders does not change. The magnitude of a bonus issue is determined by taking into
account certain rules, laid down for the purpose. For example, the issue can be made out of
free reserves created by genuine profits or by share PREMIUM collected in cash only. Also, the
residual reserves, after the proposed capitalization, must be at least 40 percent of the
increased PAID-UP CAPITAL. These and other guidelines must be satisfied by a company that is
considering a bonus issue. )See also MARKET CAPITALIZATION.)
Subprime
The term used for lending to borrowers at a higher rate than the prime rate as they have a
higher risk of default. Subprime borrowers typically have low credit scores due to prior
bankruptcy, missed loan payments, home repossession etc.
Settlement
The process whereby obligations arising under a derivative transaction are discharged through
payment or delivery or both.