Venturing into the complex world of share investing can be daunting, especially when you inevitably come across a flurry of industry jargon. As you navigate the intricacies of the trade, encountering words like ‘derivative,’ ‘limit order,’ and ‘price-to-earnings ratio’ may leave you with more questions than answers.
Understanding the basic terminologies is your first step as you learn to invest in shares. This glossary explains these terms in simple, everyday language, helping you to navigate the financial markets confidently.
Bear market: This term refers to a market condition where share prices are falling, typically defined as a decline of 20% or more from a recent high. Investors usually become more risk-averse when a bear market occurs and sell their stocks. This can lead to further declining prices, as there are more sellers than buyers.
Broker: A broker is a person or company that acts as an intermediary between an investor and the stock market. They carry out buying and selling orders from the investor, and in return, they receive a charge, typically in the form of a fee or commission. Brokers are typically knowledgeable about market trends and investment strategies and have access to the stock market, which individual investors usually don’t.
Bull market: A bull market happens when share prices are rising, and optimism encourages further upward trends.
Capital gains: This is the profit you get when you sell a share for a higher price than you bought it. For instance, if you buy a share for USD$10 and later sell for USD$15, your capital gain is USD$5.
Derivative: This is a financial contract taking its value from the performance of an underlying asset, index, or interest rate. You can think of a derivative as a bet on the future price movement of the underlying asset. For example, if you have a derivative on the price of a company’s shares, you can profit or incur a loss depending on the movements of those shares’ prices without actually owning the assets.
Dividends: Typically, when a company makes profits, it has two main options: put the money back into the business (known as retained earnings) or distribute it to its shareholders as dividends.
Index: Indexes are used to measure the performance of a particular market or sector. For example, the S&P 500 is a stock market index that tracks the performance of the 500 largest companies listed on the New York Stock Exchange. Additionally, indexes serve as benchmarks for investment funds, which can help investors compare the performance of different funds.
IPO (initial public offering): An initial public offering (IPO) is the first time a company’s shares are publicly sold. When a company goes public, it is essentially selling a piece of itself to investors. A primary reason companies go public is to raise capital. When a company goes public, it can sell its shares to investors, using the fund to finance its growth or pay off debt.
Limit order: On the other hand, a limit order is a request to buy or sell a share at a specific price or better. For example, if you place a limit order to buy a share at USD$50, the broker will only execute the order at USD$50 or less. Similarly, a limit order to sell at USD$50 means the broker will only sell the shares at USD$50 or more. While this type of order gives you more control over the price at which your trade is executed, it doesn’t guarantee that the order will be filled.
Market order: One of the most common types of orders, a market order is a request to buy or sell a share immediately at the best available current price. While market orders guarantee execution, they don’t guarantee the execution price, as they may be filled at a price much higher (for buyers) or lower (for sellers) than currently displayed.
Order: An order is a request (usually via a broker or trading platform) to buy or sell a share in a specific company. When you place an order, you initiate a transaction and set the conditions for its execution.
Portfolio: In the investing world, a portfolio is the collection of all the different investments you own, including shares, bonds, cash, real estate, and others. A diversified portfolio helps spread risk, allowing other investments to compensate when others perform poorly.
Price-to-earnings ratio (P/E ratio): This popular valuation ratio helps determine whether a company’s stock is priced reasonably compared to its earnings. For example, if a company’s stock is priced at $50 per share and its earnings per share is $5, the P/E ratio would be 10. This means you’re paying $10 for every $1 of the company’s earnings.
Shares: Also referred to as stock or equity, shares represent a portion of ownership in a company. When buying shares, you are essentially obtaining a stake in the ownership of the company, which grants you a portion of its profits.
Yield: This reflects the return a company generates on its stock. It’s calculated by dividing the annual dividends paid per share by the share’s current market price. For example, if a company pays annual dividends of USD$1 per share, and the current share price is USD$20, the dividend yield would be 5% (1/20).
The stock market, like any other industry, has its own language. As you continue to learn and grow as an investor, these terms will become second nature. Remember, understanding investment parlance is not only helpful in understanding financial news and market trends; it’s also crucial in making informed decisions about where, when, and how to invest your money.