Instructions: This handout comprises a compilation of certain basic financial, accounting and economic terms.

This is only a representation and students are requested not to limit their learning to this handout only. Finance Stock- A type of security that signifies ownership in a corporation and represents a claim on part of the corporation's assets and earnings. There are two main types of stock: common and preferred. Common stocks usually entitle the owner to vote at shareholders' meetings and to receive dividends. Preferred stock generally does not have voting rights, but has a higher claim on assets and earnings than the common shares. For example, owners of preferred stock receive dividends before common shareholders and have priority in the event that a company goes bankrupt and is liquidated. Also known as "shares" or "equity". A holder of stock (a shareholder) has a claim to a part of the corporation's assets and earnings. In other words, a shareholder is an owner of a company. Ownership is determined by the number of shares a person owns relative to the number of outstanding shares. For example, if a company has 1,000 shares of stock outstanding and one person owns 100 shares, that person would own and have claim to 10% of the company's assets. Stocks are the foundation of nearly every portfolio. Historically, they have outperformed most other investments over the long run. Bonds- A Company needs funds to expand into new markets, while governments need money for everything from infrastructure to social programs. The problem large organizations run into is that they typically need far more money than the average bank can provide. The solution is to raise money by issuing bonds (or other debt instruments) to a public market. Thousands of investors then each lend a portion of the capital needed. Really, a bond is nothing more than a loan for which you are the lender. The organization that sells a bond is known as the issuer. You can think of a bond as an IOU given by a borrower (the issuer) to a lender (the investor). Of course, nobody would loan his or her hard-earned money for nothing. The issuer of a bond must pay the investor something extra for the privilege of using his or her money. This "extra" comes in the form of interest payments, which are made at a predetermined rate and schedule. The interest rate is often referred to as the coupon. The date on which the issuer has to repay the amount borrowed (known as face value) is called the maturity date. Bonds are known as fixed-income securities because you know the exact amount of cash you'll get back if you hold the security until maturity. For example, say you buy a bond with a face value of $1,000, a coupon of 8%, and a maturity of 10 years. This means you'll receive a total of $80 ($1,000*8%) of interest per year for the next 10 years. Actually, because most bonds pay interest semi-annually, you'll receive two payments of $40 a year for 10 years. When the bond matures after a decade, you'll get your $1,000 back. Municipal bond- Represents borrowing by state or local governments to pay for special projects such as highways or sewers. The interest that investors receive is exempt from some income axes. Debt Versus Equity - Bonds are debt, whereas stocks are equity. This is the important distinction between the two securities. By purchasing equity (stock) an investor becomes an owner in a corporation. Ownership comes with voting rights and the right to share in any future profits. By purchasing debt (bonds) an investor becomes a creditor to the corporation (or government). The primary advantage of being a creditor is that you have a higher claim on assets than shareholders do: that is, in the case of bankruptcy, a bondholder will get paid before a shareholder. However, the bondholder does not share in the profits if a company does well - he or she is entitled only to the principal plus interest.

the majority of stock is issued is in this form.The earnings on these stocks are tied very closely to the overall business cycle and economic state. This higher return comes at a cost since common stocks entail the most risk.Common and preferred are the two main forms of stock. When people talk about stocks they are usually referring to this type. which has variable dividends that are never guaranteed. Another advantage is that in the event of liquidation. Preferred stock may also be callable.These remain stable in any economic conditions. Stock Market.) With preferred shares. Some people consider preferred stock to be more like debt than equity. but this comes at the cost of a lower return. bondholders and preferred shareholders are paid. drug manufacturers or utilities. In fact. with any subsequent trading going on in the secondary market. The primary market is where new issues are first offered. For example. Common Stock . Defensive stocks. well. one class of shares would be held by a select group who are given ten votes per share while a second class would be issued to the majority of investors who are given one vote per share. This market can be split into two main sections: the primary and secondary market.Preferred stock represents some degree of ownership in a company but usually doesn't come with the same voting rights. therefore. If a company goes bankrupt and liquidates. the classes are traditionally designated as Class A and Class B. Also known as the equity market. yields higher returns than almost every other investment. it is one of the most vital areas of a market economy as it provides companies with access to capital and investors with a slice of ownership in the company and the potential of gains based on the company's future performance. investors are usually guaranteed a fixed dividend forever. preferred shareholders are paid off before the common shareholder (but still after debt holders). When there is more than one class of stock. . it's also possible for companies to customize different classes of stock in any way they want. These are stocks in companies that manufacture the necessities that people will need in any economy. by means of capital growth. We basically went over features of common stock in the last section. This is different than common stock. Over the long term.Common stock is. such as food companies. common stock. A good way to think of these kinds of shares is to see them as being in between bonds and common shares. the common shareholders will not receive money until the creditors.To sum up.The market in which shares are issued and traded either through exchanges or over-the-counter markets. there is generally less risk in owning bonds than in owning stocks. Different Classes of Stock . Investors get one vote per share to elect the board members. meaning that the company has the option to purchase the shares from shareholders at anytime for any reason (usually for a premium). The most common reason for this is the company wanting the voting power to remain with a certain group. who oversee the major decisions made by management. common. Common shares represent ownership in a company and a claim (dividends) on a portion of profits. however. Preferred Stock . There are two main types of stocks: common stock and preferred stock. Cyclical stocks. different classes of shares are given different voting rights. Examples include the housing industry and industrial equipment companies. (This may vary depending on the company.

etc. A bear market is when the economy is bad. and stocks are rising. Value stocks. busily doing research and developing products and services in hopes of achieving growth. for one of many reasons. The term "bull market" is most often used in respect to the stock market. Net worth.Growth stocks. it is considered a bull market.On Wall Street. investor confidence and expectations that strong results will continue. give indications that they should be selling for a higher per share price. These are typically companies that are newer. And if the trend is down. commodities.A financial market of a certain group of securities in which prices are rising or are expected to rise.Total assets minus total liabilities of an individual or company. gross domestic product (GDP) is growing. Of course. It's tough if not impossible to predict consistently when the trends in the market will change. The Bulls . the bulls and bears are in a constant struggle. That is. these stocks have strong growth potential.These are stocks in emerging companies that are speculating on their future earnings and revenue. and sooner or later a bear market (in which prices fall) will come. Things are just plain rosy! Picking stocks during a bull market is easier because everything is going up. are undervalued. but really can be applied to anything that is traded. unless he or she is a short seller. The extreme on the high end is a stock-market bubble. earnings and looking at other factors. It is quite difficult for an investor to make stellar gains during a bear market. When you see a bear what do you do? Tuck in your arms and play dead! Fighting back can be extremely dangerous. Much of the profits are fed back into the companies themselves. a downturn of 15-20% or more in multiple indexes (Dow or S&P 500) is considered an entry into a bear market. The Bulls. Bull markets cannot last forever though. and on the low end a crash. and a bear swipes its paws down. The use of "bull" and "bear" to describe markets comes from the way in which each animal attacks its opponents. Income stocks . no bull market can last forever. They are typically long-established companies with stable earnings or utilities such as phone companies. such as bonds. you undoubtedly will as you begin to invest.These pay higher-than-average dividends over a sustained period. but when analyzing the company's sales. They are stocks that are selling at a low price. and sometimes they can lead to dangerous situations if stocks become overvalued. Part of the difficulty is that psychological effects and speculation can sometimes play a large (if not dominant) role in the markets.These are stocks in companies that. it is considered a bear market. If you haven't heard of these terms already. For a company. Speculative stocks . currencies.As the name might suggest. If a person is optimistic and believes that stocks will go up. he or she is called a "bull" and is said to have a "bullish outlook".A market condition in which the prices of securities are falling or are expected to fall. recession . Bull markets are characterized by optimism. The Bears . Although figures can vary. These are risky investments since the company may or may not reach their intended future goals. people are finding jobs. The Bears And The Farm. a bull thrusts its horns up into the air. A bull market is when everything in the economy is great. These actions are metaphors for the movement of a market: if the trend is up. also called owner's equity or shareholders' equity or net assets.

Bond investors usually expect more of their gains to come from coupon payments. the yield gap is often negative. left to right) simply because investors normally demand compensation for the added RISK of holding longer-term SECURITIES. The annual income from a SECURITY. only starting to buy in anticipation of a bull market.A way of comparing the performance of BONDS and SHARES. a downward-sloping (or inverted) yield curve has been an indicator of RECESSION on the horizon. It is normal for the yield curve to be positive (upward sloping. and they are drawn to high-risk securities without putting in the proper time or money to learn about these investment vehicles. you are also guaranteed never to see any return if you avoid the market completely and never take any risk. If so. One solution to this is to make money when stocks are falling using a technique called short selling. Also known as rate of return. useful information can be gleaned from changes in the SPREADS between yields on bonds of different maturities and on different sorts of bonds with the same maturity (such as government bonds versus corporate bonds. They also worry that INFLATION will erode . A flat yield curve means that investors are indifferent to maturity risk. They get impatient. that investors expect the CENTRAL BANK to cut shortterm interest rates in the near future. and emotional about their investments. or thinly traded bonds versus highly liquid bonds). If investors think it is riskier to buy a bond with 15 years until it matures than a bond with five years of life. Yield gap. the amount of money returned to investors on their investments. at least.Shorthand for comparisons of the INTEREST RATE on GOVERNMENT BONDS of different maturity. it means that investors are more worried that INFLATION will rise for the foreseeable future and therefore that higher interest rates will be needed. greedy. it is that they expect most of the benefit from buying shares to come from an increase in their PRICE (CAPITAL appreciation) rather than from DIVIDEND payments.In stocks and bonds. with bonds yielding more than equities. Their fear overrides their need to make profits and so they turn only to money-market securities or get out of the markets entirely. Pigs buy on hot tips and invest in companies without doing their due diligence. While it's true that you should never invest in something over which you lose sleep. but this is unusual. or. Yield curve. The Other Animals on the Farm . believing that stocks are going to drop. bears make money. Even if the direction (up or down) of a yield curve is unchanged. Bear markets make it tough for investors to pick profitable stocks. expressed as a percentage of the current market PRICE of the security. he or she is called a "bear" and said to have a "bearish outlook". "Bulls make money. you might expect them to have a higher yield. The gap is defined as the AVERAGE YIELD on equities minus the average yield on bonds. the yield curve will slope upwards from left (the shorter maturities) to right. they will demand a higher interest rate (YIELD) on the longer-dated looming and stock prices are falling. Professional traders love the pigs. If a person is pessimistic. The yield on a SHARE is its DIVIDEND divided by its price. In practice. Rather. as it's often from their losses that the bulls and bears reap their profits. Pigs are high-risk investors looking for the one big score in a short period of time. Another strategy is to wait on the sidelines until you feel that the bear market is nearing its end. Historically. A BOND yield is also known as its INTEREST RATE: the annual coupon divided by the market price. it means that investors have a rosier inflationary outlook. This is not because investors regard equities as safer than bonds (see EQUITY RISK PREMIUM). Because shares are usually riskier investments than bonds. When the whole curve moves lower. but pigs just get slaughtered!" Yield. When the yield curve as a whole moves higher.Chickens and Pigs -Chickens are afraid to lose anything.

Capital controls. The pattern was more mixed in developing countries. Some risks. Assuming investors diversify away alpha risks. Until the 20th century capital controls were uncommon. These alpha risks are specific to an individual asset. BETA. So even a basket of all of the SHARES in a stockmarket will still be risky. Following the end of the Second World War only Switzerland. the usefulness of the dividend yield as a guide to the performance of shares has declined since the early 1990s. which indicates how much an asset’s price is expected to change when the overall market changes. Canada and the United States adopted open capital regimes. Asian countries began to loosen their widespread capital controls in the 1980s and did so more rapidly during the 1990s. how an investor values any particular asset should depend crucially on how much the asset’s PRICE is affected by the risk of the market as a whole. . Safe investments have a beta close to zero: economists call these assets risk free. and. Examples include limits on foreign INVESTMENT in a country’s FINANCIAL MARKETS.the REAL VALUE of future coupons. by holding a diversified portfolio of assets (see MODERN PORTFOLIO THEORY). for example. Investors can eliminate some sorts of RISK. and on domestic residents’ investments abroad. The CAPM says that the expected return of a security or a portfolio is equal to the rate on a risk-free security plus a risk premium multiplied by the assets systematic risk. such as TREASURY BILLS. as increasingly companies have chosen to return cash to shareholders by buying back their own shares rather than paying out bigger dividends. Yet it is probably the best and certainly the most widely used method for calculating the cost of capital. They think the CAPM may be an elegant theory that is no good in practice. cannot be eliminated through diversification. Moreover. which some economists have found of dubious use. In developed countries. People must be rewarded for investing in such a risky basket by earning returns on AVERAGE above those that they can get on safer assets. Latin American countries imposed lots of them during the debt crisis of the 1980s then scrapped most of them from the late 1980s onwards. The CAPM asserts that the only risk that is priced by rational investors is systematic risk. But does the CAPM work? It all comes down to beta. Theory was invented by William Sharpe (1964) and John Lintner (1965).government-imposed restrictions on the ability of CAPITAL to move in or out of a country. multiplied by the particular asset’s beta. because that risk cannot be eliminated by diversification.An economic theory that describes the relationship between risk and expected return. known as RESIDUAL RISK or alpha. the risk that a company’s managers will turn out to be no good. but many countries then imposed them. How much is calculated by the average premium for all assets of that type. Other rich countries maintained strict controls and many made them tougher during the 1960s and 1970s. This changed in the 1980s and early 1990s. The market’s risk contribution is captured by a measure of relative volatility. from roads in Thailand to telecoms systems in Mexico. and serves as a model for the pricing of risky securities. there were two main reasons why capital controls were lifted: free markets became more fashionable and financiers became adept at finding ways around the controls. Riskier investments. when most developed countries scrapped their capital controls. The rationale of the CAPM can be simplified as follows. should earn a premium over the risk-free rate. Developing countries later discovered that foreign capital could play a part in financing domestic investment. such as that of a global RECESSION. Capital asset pricing model (CAPM). such as a share. on direct investment by foreigners in businesses or property. making them value current payments more highly than those due in years to come.

as some Asian governments wondered whether lifting the controls had left them vulnerable to the whims of international speculators. but you won't have to worry about losing your principal. Other fundsMoney Market Funds . stand ready to buy back their old shares. while equity funds that invest in fast-growing companies are known as growth funds.A portfolio of stocks. open and closed-ended. regions of investments and investment strategies. At the fundamental level. such as the ability to write cheques against their units. they mostly considered only limited controls on short-term capital movements. but only reinvest the return on the existing portfolio. they issue more units as people want them. There was also discussion of a “Tobin tax” on short-term capital movements. The Asian economic crisis and CAPITAL FLIGHT of the late 1990s revived interest in capital controls. Also there are several open ended mutual funds which are insurance linked. This system allows small investors to participate in the reduced risk of a large and diverse portfolio that they could not otherwise build themselves. bonds. whose money could flow out of a country as fast as it once flowed in. or shareholders. Although some funds are less risky than others.each mutual fund has different risks and rewards. Open-end funds are so called because their capitalization is not fixed. Mutual's never possible to diversify away all risk. The return on the fund's holdings is distributed back to its contributors. You won't get great returns. They also have the benefit of professional managers overseeing their money who have the time and expertise to analyze and pick securities. These funds do not accept new contributions from investors. Capital is contributed by smaller investors who buy shares in the mutual fund rather than the individual stocks and bonds in its portfolio. Open-end funds sell their own new shares to investors. are readily transferable in the open market and are bought and sold. and did not reverse the broader 20-year-old process of global financial and economic LIBERALISATION. mostly Treasury bills. and are not normally listed on exchanges.furthermore. It is basically marketing with added benefits. that financial capital often brought with it valuable HUMAN CAPITAL. Units in closed-end funds. a winner of the NOBEL PRIZE FOR ECONOMICS. some of which are listed on Stock Exchanges. all funds have some level of risk . minus various fees and commissions. particularly movements out of a country. or other securities administered by a team of one or more managers from an investment company who make buy and sell decisions on component securities. Many open-ended funds allow contributors extra perks. This is a safe place to park your money. For example. Mutual Funds: Different Types of Funds. there are three varieties of mutual funds: 1) Equity funds (stocks) 2) Fixed-income funds (bonds) 3) Money market funds All mutual funds are variations of these three asset classes. A typical return is twice the amount you would earn in a regular checking/savings account and a little less than the average certificate of . Latin America’s controls in the 1980s failed to keep much money at home and also deterred foreign investment. In general. proposed by James TOBIN. They also found that capital controls did not work and had unwanted side-effects.The money market consists of short-term debt instruments. Each fund has a predetermined investment objective that tailors the fund's assets. There are two types of mutual funds. Even so. equity funds that invest only in companies of the same sector or region are known as specialty funds. This is a fact for all investments. the higher the potential return. the higher the risk of loss. like other stock.

many different types of equity funds because there are many different types of equities. the investment objective of this class of funds is long-term capital growth with some income. Although the world's economies are becoming more inter-related. which simply refers to companies that are neither value nor growth stocks and are classified as being somewhere in the middle. .Income funds are named appropriately: their purpose is to provide current income on a steady basis. they can. the primary objective of these funds is to provide a steady cash flow to investors. Because there are many different types of bonds. Objectives are similar to those of a balanced fund. It's tough to classify these funds as either riskier or safer than domestic investments. nearly all bond funds are subject to interest rate risk. which refers to companies that have had (and are expected to continue to have) strong growth in earnings. The strategy of balanced funds is to invest in a combination of fixed income and equities. a mutual fund that invests in largecap companies that are in strong financial shape but have recently seen their share prices fall would be placed in the upper left quadrant of the style box (large and value). however. The weighting might also be restricted to a specified maximum or minimum for each asset class." and "income" are synonymous.deposit (CD). These companies are characterized by low P/E and price-to-book ratios and high dividend yields. Bond/Income Funds . The portfolio manager is therefore given freedom to switch the ratio of asset classes as the economy moves through the business cycle. They do tend to be more volatile and have unique country and/or political risks. income and capital appreciation. For example.Funds that invest in stocks represent the largest category of mutual funds. Equity Funds . but these kinds of funds typically do not have to hold a specified percentage of any asset class. There are. sales and cash flow. bond funds can vary dramatically depending on where they invest. The opposite of value is growth. which means that if rates go up the value of the fund goes down. Such a mutual fund would reside in the bottom right quadrant (small and growth). on the flip side. Global/International Funds . A compromise between value and growth is blend. actually reduce risk by increasing diversification. Generally. While fund holdings may appreciate in value. A typical balanced fund might have a weighting of 60% equity and 40% fixed income. Furthermore. the audience for these funds consists of conservative investors and retirees. as part of a well-balanced portfolio. These terms denote funds that invest primarily in government and corporate debt. it is likely that another economy somewhere is outperforming the economy of your home country." "bond.An international fund (or foreign fund) invests only outside your home country. When referring to mutual funds. As such. But. Global funds invest anywhere around the world.The objective of these funds is to provide a balanced mixture of safety. the terms "fixed-income. a fund specializing in high-yield junk bonds is much more risky than a fund that invests in government securities. A similar type of fund is known as an asset allocation fund. For example. The idea is to classify funds based on both the size of the companies invested in and the investment style of the manager. including your home country. The term value refers to a style of investing that looks for high quality companies that are out of favor with the market. Bond funds are likely to pay higher returns than certificates of deposit and money market investments. The opposite of this would be a fund that invests in startup technology companies with excellent growth prospects. Balanced Funds . but bond funds aren't without risk.

An index fund merely replicates the market return and benefits investors in the form of low fees. etc. This is where qualitative analysis comes in . with conservative or aggressive objectives. or trend. Index Funds . Regional funds make it easier to focus on a specific area of the world. Fundamental Analysis: Fundamental analysis is the cornerstone of investing. Fundamental analysis involves analyzing the characteristics of a company in order to estimate its value. which occurs if the region goes into a bad recession. assets. Load Fund. Technicians (sometimes called chartists) are only interested in the price movements in the market.the breakdown of all the intangible. yet almost all use the fundamentals. quantitative analysis can produce excellent results. This may mean focusing on a region (say Latin America) or an individual country (for example. some would say that you aren't really investing if you aren't performing fundamental analysis. however. Also known as quantitative analysis. Most socially responsible funds don't invest in industries such as tobacco. Just like for sector funds. An advantage of these funds is that they make it easier to buy stock in foreign countries. But there is more than just number crunching when it comes to analyzing a company. The other side considers tangible and measurable factors (quantitative). difficult-to-measure aspects of a company. If used in conjunction with other methods. you have to accept the high risk of loss. The idea is to get a competitive performance while still maintaining a healthy conscience. this involves looking at revenue. This type of mutual fund forgoes broad diversification to concentrate on a certain segment of the economy. Sector funds are targeted at specific sectors of the economy such as financial. it's tough to know where to start. weapons or nuclear power. In other words.The last but certainly not the least important are index funds. . alcoholic beverages. Technical analysis takes a completely different approach. but you have to accept that your sector may tank. Ratio Analysis: Fundamental Analysis has a very broad scope.Mutual Fund that is sold for a sales charge by a brokerage firm or other sales representative. technical analysis really just studies supply and demand in a market in an attempt to determine what direction. There are an endless number of investment strategies that are very different from each other. Because the subject is so broad. Fundamental analysts look at this information to gain insight on a company's future performance. expenses. it doesn't care one bit about the "value" of a company or a commodity. which is otherwise difficult and expensive. There is a greater possibility of big gains. The biggest part of fundamental analysis involves delving into the financial statements.This classification of mutual funds is more of an all-encompassing category that consists of funds that have proved to be popular but don't necessarily belong to the categories we've described so far. One aspect looks at the general (qualitative) factors of a company. technology. Such funds may be stock.Specialty Funds . Technical Analysis: The methods used to analyze securities and make investment decisions fall into two very broad categories: fundamental analysis and technical analysis. liabilities and all the other financial aspects of a company. An investor in an index fund figures that most managers can't beat the market. In fact. will continue in the future. This means crunching and analyzing numbers from the financial statements. Sector funds are extremely volatile. Despite all the fancy and exotic tools it employs. only Brazil). technical analysis attempts to understand the emotions in the market by studying the market itself. as opposed to its components. This type of mutual fund replicates the performance of a broad market index such as the S&P 500 or Dow Jones Industrial Average (DJIA). Socially-responsible funds (or ethical funds) invest only in companies that meet the criteria of certain guidelines or beliefs. bond or commodity funds. health.

for example. So they come with an economists’ . If you buy a futures contract. in which two parties agree to transact a set of financial instruments or physical commodities for future delivery at a particular price.5 million! (In fact. It wasn't until the 1850s that the U. Derivatives.a "best guess" of how to invest. Trading in futures originated in Japan during the eighteenth century and was primarily used for the trading of rice and silk.remember. is determining how well an investment strategy fits your personal outlook. and might perform in the future. For example current assets alone don't tell us a whole lot. Futures Contract (Futures) . it's no wonder that investors continue to hunt for "the next Microsoft". your return could have been even greater. Why worry so much about it? Why spend hours doing it? The answer is simple: wealth.A futures contract is a legally binding agreement to buy or sell commodities or financial securities at a fixed time in the future at a price agreed upon today. other companies. time frame. The delivery period. If you become a good stockpicker. the industry. your return would have been somewhere in the neighborhood of 35. buyers and sellers in the futures market primarily enter into futures contracts to hedge risk or speculate rather than to exchange physical goods (which is the primary activity of the cash/spot market). Ratios look at the relationships between individual values and relate them to how a company has performed in the past. an option to buy a SHARE is derived from the share.000 investment would have turned itself into a cool $3. quantity and quality of a futures contract is standardized and specified while the price is set at the time a contract is opened and is negotiated between buyers and sellers. over an 18-year period. you may be asking yourself why stock-picking is so important. However. a $10. The bottom line is that there is no one way to pick stocks. or financial contract. Had you invested in Bill Gates' brainchild at its IPO back in 1986 and simply held that investment. But participating in the futures market does not necessarily mean that you will be responsible for receiving or delivering large inventories of physical commodities . In other words. At this point. Take Microsoft. had you had this foresight in the bull market of the late '90s. It is a type of derivative instrument. started using futures markets to buy and sell commodities such as cotton.S. And sometimes two seemingly opposed theories can be successful at the same time. Futures are traded either electronically or via open outcry on a trading floor on the Exchange offering the particular contract. or even the economy in general. income statement. That is why futures are used as financial instruments by not only producers and consumers but also speculators. Futures Fundamentals: What we know as the futures market of today came from some humble beginnings. but when we divide them by current liabilities we are able to determine whether the company has enough money to cover short term debts.Financial ASSETS that “derive” their value from other assets. It's comparing the number against previous years.000% by spring of 2004. you can increase your personal wealth exponentially.) With returns like this. Perhaps just as important as considering theory. corn and wheat. For example. risk tolerance and the amount of time you want to devote to investing and picking stocks. they concede that when derivatives are misused the LEVERAGE that is often an integral part of them can have devastating consequences. Some politicians and others responsible for financial REGULATION blame the growing use of derivatives for increasing VOLATILITY in asset PRICES. and for being a source of danger to their users. Economists mostly regard derivatives as a good thing. allowing more precise pricing of financial RISK and better RISK MANAGEMENT. Better to think of every stock strategy as nothing more than an application of a theory . you are basically agreeing to buy something that a seller has not yet produced for a set price.Ratio analysis isn't just comparing different numbers from the balance sheet. and cash flow statement.

It is the last price a particular stock sold for the previous day. Market Open/Close Price . For example. to sell or buy a particular asset at a particular price. • A forward contract commits the user to buying or selling an asset at a specific price on a specific date in the future. equities or commodities. one with a loan on a fixed INTEREST RATE over ten years and the other with a similar loan on a floating interest rate over the same period. Market Price . on or before a specified date. bonds. in contrast to exotics. an investment BANK. so that the first pays the floating rate and the second the fixed rate. The world of derivatives is riddled with jargon. OTC derivatives are customized contracts that enable the parties to select the trading units and delivery dates to suit their warning: if you don’t understand it. A Moving Average represents data in a manner that smoothens fluctuations and highlights possible trends Intrinsic Value – can be explained as- . Derivatives traded at exchanges are standardized contracts that have standard delivery dates and trading units. don’t use it. may agree to take over each other’s obligations. say. Here are translations of the most important bits. • Exotics are derivatives that are complex or are available in emerging economies. • An over-the-counter is a derivative that is not traded on an exchange but is purchased from. These underlying assets may be foreign exchange. two companies. • A swap is a contract by which two parties exchange the cashflow linked to a liability or an asset. • Plain-vanilla derivatives. • An option is a contract that gives the buyer the right.It is the price a particular stock is currently selling for during the operating hours of the stock market. relate to developed economies and are comparatively uncomplicated. are typically exchange-traded. Moving Average.A rolling set of averages calculated over a time series of values. • A future is a forward contract that is traded on an exchange. but not the obligation.

2. your analysis is showing that the stock is worth more than its price and that it makes sense to buy the stock. In plain English. the premise behind all the strategies is the same: a company is worth the sum of its discounted cash flows. plain old revenue minus expenses . The idea behind intrinsic value equaling future profits makes sense if you think about how a business provides value for its owner(s). In the case of both puts and calls. this means that a company is worth all of its future profits added together. Intrinsic value includes hidden things like the value of a brand name. If you have a small business. 4. For put options. and so on. if the difference between the underlying stock's price and the strike price is negative. A business is all about profits. Although there are many different methods of finding the intrinsic value.1.the basis of intrinsic value. For call options. it is the difference between the strike price and the underlying stock's price. And you can take something out of the company only if you have something left over after you pay for supplies and salaries. . The value of a company or an asset based on an underlying perception of the opposed to the value at which it is being traded in the marketplace. that is. which is difficult to calculate. all it takes is a little time and energy. And these future profits must be discounted to account for the time value of money. a fancy term for what you believe a stock is really worth . its worth is the money you can take from the company year after year (not the growth of the stock). Intrinsic value in options is the in-the-money portion of the option's premium 3. Doing basic fundamental valuation is quite straightforward. reinvest in new equipment. The goal of analyzing a company's fundamentals is to find a stock's intrinsic value. this is the difference between the underlying stock's price and the strike price. If the intrinsic value is more than the current share price. the value is given as zero. the force by which the $1 you receive in a year's time is worth less than $1 you receive today.

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