This is a glossary that describes financial terms (jargons) generally used. Feel free to comment about jargons that I haven’t added in this list. I’ll surely add them as soon as I can.
In case you didn’t know what jargon is (don’t worry even I didn’t know what it means for a few years):
A jargon is a special word used by individuals who want to discuss important topics that are difficult for normal people to understand.
Today I’ll be teaching you a few jargons that you must know. Some you already know, learn and understand in detail the ones you don’t.
30 Financial Terms Millennials Must Know
1. CIBIL Score
Credit Information Bureau India Limited is a company that is engaged in maintaining records of all your credit purchases.
Cibil score is your credit score and it determines whether you get loans or not. It has many other benefits, here are two articles you can read to know more about credit score.
2. Time Value of Money
I like this definition because it teaches you the value of money at present. Time Value of Money is a concept that the money you have right now is more valuable today than it will be in the future.
What it’s trying to say is that if you start investing today your net returns (ROI) will be greater than if you start investing in a year or two. Whereas if you don’t invest, your money value decreases due to inflation.
3. Compound Interest
Compound Interest is the Power Of Compounding. For example, let’s say you invested Rs 20,000 and it earned an interest of INR 1500 in the initial first year.
If for the second year you don’t make any more investments, assuming the interest rate remains the same at 10%, you will generate an interest amount of Rs 2150 for the second year. This is possible due to the power of compounding i.e Compound Interest.
4. Debt to Income Ratio
How much debt do you currently have? Debt to Income Ratio is a summation of all your debts divided by your monthly income. This number is useful for lenders to ascertain your financial position to pay them the money that you may take as a loan.
The higher the DTI, the worse your financial position. If you have a lower DTI, banks and other loans providing financial institutions will like you more.
5. Net Worth
Net Worth = Assets – Liabilities. Add up all your assets then subtract it from all your liabilities, what you get is your Net Worth. You can check out the net worth of celebrities by typing ‘Their Name + Net Worth’. The amount you’ll see is their assets minus their liabilities.
Volatility is the rate at which security increases or decreases in value. You may have heard people say that the stock market is volatile. This means that today the stock market may be good but tomorrow it returns can be bad, it fluctuates easily.
If a market is less volatile, that means your returns will be predictable, measurable and normal but if it’s a highly volatile market, then your returns may one day be awesome and the next day not that awesome!
In simple words, higher volatility means higher risk and lower volatility means lower risk.
7. Student Loan
As the name suggests, student loans are given to students for their future education. These loans are given to families at an affordable rate compared to normal loans. Student loans are usually taken to cover up tuition fees, living expenses, etc.
a loan issued to governments or corporate entities for expansion. It’s basically investing in debt. You’re providing the money that corporates and governments will use for raising capital.
These are considered very secure as most bonds are government bonds that are very secure and give consistent income. Owning bonds can bring your investments back to low-risk investments.
Rebalancing is the process of reworking on your previously decided investment portfolio ratios. Rebalancing is adjusting your portfolio according to your needs and understanding of various investment markets.
Let’s say your portfolio included 50% stocks, 10% bonds, 20% gold and 20% real estate. If the stock market is showing growth that means your 50% may not be worth 60% so you’ll need to sell some stocks to rebalance your investment portfolio.
It can be that you sell some stocks and buy bonds or invest in gold/real estate to rebalance your portfolio.
10. Annual Percentage Rate (APR)
Annual Percentage Rate (APR) is the annual rate of interest that banks or other financial institutions charge you for taking the loan, the interest that you pay every year is called Annual Percentage Rate.
If you want to learn more about APR, you can read this article by Investopedia.
An annuity is a contract you make with a company (usually an insurance company) in which you agree to make a lump sum payment and in return get monthly payments either immediately or in the future. These are insurance contracts that pay you a regular income.
Another definition of an annuity is,
An annuity is a series of payments made at equal intervals of time. For example, your house mortgage where you pay equal amounts of money each month is an annuity.
12. Life Insurance
Life insurance is useful at the time of your death to the one you insured. So you take a life insurance policy in your name for your family. When you die, the insurance company pays your family the sum assured.
The most basic policy is cheap and gives great benefits. It’s essential you secure your family’s financial life after your death, so a life insurance policy is a must.
13. Cash Flow Statements
A Cash Flow Statement is a financial statement of a business that shows the amount of cash and cash equivalents entering and leaving the business.
By looking at a cash flow statement you can see how a business is utilising their cash. Does it pay debts with cash or spend it on R&D or waste it on unnecessary things. It helps an investor decide whether a company is good as an investment or not.
14. Emergency Fund
An emergency fund is a place to stash your money. This money is to be used only when there is an EMERGENCY. If you lose your job or if you or your family members have a medical condition or your car broke down and you can’t travel or you need urgent cash for your mortgage payments.
The benefit of an emergency fund is that it reduces stress and makes your financial life easier. Believe it or not, studies have shown that investing in an emergency fund will keep you from spending all that money! Here are two articles that should help you:
15. Price-to-Earnings Ratio (P/E Ratio)
The Price-to-Earnings Ratio is a ratio to value the company by measuring its share price (current) to its per-share earnings. Each company is different and has its unique quality but if you want to ignore all that and compare a company’s value in an apple’s to apple’s comparison, then P/E Ratio is a great tool. To make P/E Ratio easier to understand, here’s a youtube video by Rachana Ranade explaining it in simple words.
Amortization simply means reducing the value of an intangible asset or a loan. There are two meanings to amortization, one of an intangible asset and another of a loan/debt. Intangible assets are not for the ordinary people so let’s focus on the definition of amortization for loans.
Amortization refers to the process of paying off debt over time in regular instalments. These instalments include interest and principal amount. Generally, when you take up a loan, your initial amount paid is more of interest and less of the principal amount.
With each additional payment you make, the percentage of your principal amount increases and interest (earned by the bank) decreases.
17. Balance sheet
The balance sheet is a word used in accounting mainly for business purposes. The balance sheet is a financial statement that keeps a record of shareholders fund, company assets and company liabilities.
It shows you what the company owns and what it owes to others, how much profits it makes, how much losses it incurs, where it spends the cash and how they invest their money. It’s all in the balance sheet.
It helps investors ascertain the company’s financial position and determine whether to invest or not.
18. Return On Investment (ROI)
Return On Investment is a measure to identify your profits or losses made through your investments. You can calculate it by dividing the money you earned by the total investment made.
So let’s say you invested Rs 1000 and made Rs 200 out of the investment, that means you’ve made 20% on your money, i.e your Return On Investment (ROI) is 20%.
19. Market Value
Market value is the value of an asset in the market or the value that investors in the market determine for a company. In the secondary stock market, the price of a stock of a company depends on the market forces of demand and supply. So market value is what someone is willing to pay for.
20. Short Selling
Short selling is an investor’s strategy to make money from the stock market. A short sale is a transaction in which the seller does not own the shares that are being sold but borrows it from his broker and sells the shares.
The hope in short selling is that from the time the investor sells the shares, the price of the shares will fall and when it falls, he will buy the shares. So buy at a low price and sell at a high price.
The logic behind this is that it allows an investor to make profits when the price of shares fall. Short selling is risky and is not for everyone. There is no limit to the amount of risk an investor can incur.
21. 50-30-20 Budget Rule
Senator Elizabeth Warren came up with a Budgeting Rule that will make your financial life simpler. The 50-30-20 Budget Rule is a nice strategy to use to keep your budget in check and ensure you don’t overspend.
This budgeting rule helps you stay in limits and teaches you to control your expenses. In this rule, 50% goes to needs, 30% goes to wants and 20% goes to savings.
So you should only spend 50% of your after-tax money on wants, only 30% on wants and rest should be saved. Most people don’t save at all so following this principle will help you.
I’ve written an article on The 50-30-20 Budgeting Rule. Read it to learn more about Senator Elizabeth Warren’s Budget Rule.
Earnings before interest, taxes, and amortization (EBITA) is a calculation done by businesses to know their profits. It’s usually used for comparing the EBITA of one business to that of the other.
With the help of EBITA, you can observe how much cash flow a company has or how much dividends it can pay. Before-tax, and other expenses, how much does a firm earn is what this formula will help you get.
EBITA can provide an accurate view of a company’s financial performance over time.
23. Earnings Per Share (EPS)
The formula for Earnings Per Share (EPS) is a company’s profits divided by the outstanding shares of its stock. Earnings Per Share is useful to know the profits a company makes in a year.
The higher the EPS, the more profitable the venture is; a lower EPS means the profits of the company are low and not that attractive. EPS is one of the main indicators you can use to identify winning profitable stocks, a higher EPS is always good for your investment portfolio.
Diversification is an investor’s strategy to manage risk. It’s a risk management strategy that works when you invest your money in different things. For example, you buy 10 stocks of 10 companies in 5 different sectors.
Samantha wants to diversify her investments, so she invests some money in stocks, some in bonds, gold, real estate, savings accounts, etc.
The simple concept of diversification is that on average all your investments will yield good long term returns and reduce risk. Maybe stock returns will rise, gold returns may crash.
25. Mutual Funds
Mutual funds are a type of investment for investors where investors pool in their money to invest in securities like bonds, stocks, commodities etc. These mutual funds are managed by professional financial managers who know how to allocate funds to maximize profits and reduce risks.
Mutual funds can be customised, if you are willing to take on more risk, then you can choose to opt for small-cap mutual funds and if you want to minimise risk as much as possible, considering large-cap stocks is your go-to option.
When the prices of goods and services increase in the economy, it is termed as inflation. This means the value of our money decreases.
For example, an egg that costs Rs 6 may now cost Rs 8; earlier Rs 6 would buy us an egg but the value of money has decreased thus price of an egg has increased. If a stock’s ROI is 4% and inflation is 5% then you’ve made a profit of -1%.
Derivatives are something that derives its value from the price or index of its underlying securities. They are financial products which derive their value from certain underlying assets like stocks, commodities, bonds etc.
The main purpose of a derivative is to minimise risk and eventually generate higher profits. Four of the most common examples of derivative instruments are Futures, Options, Swap and Forwards.
In simple words, liquidity is how fast you can convert your assets into cash. Higher Liquidity means you can convert your assets into cash immediately while Lower
Liquidity means you may have to do a few steps or it’s difficult to convert assets into ready cash easily.
Parking your money in a savings account is the best way to have higher liquidity. So a savings account is a liquid asset while real estate can be termed as illiquid assets. Even fine art and collectables are considered illiquid.
A balanced investment portfolio must have a combination of liquid and illiquid assets (liquid assets being more than illiquid assets)
Dividends are nothing but cash distribution of earnings. It is part of profits made by the company that it decides to share it with their shareholders regularly.
Earnings are the net profit of a business while the dividends are the payout ratio of the earnings. Investors prefer companies that offer consistent dividends.
It’s an easy super sweet way to increase your return on investment. A company that gives more dividends is likely having more profits thus growing its share value.
Note that only after approval of the shareholders in the AGM, a company can decide to give dividends to its shareholders.
30. Net Income
Net income for a salaried individual refers to his income after removing taxes and other deductions. It’s also called ‘Take Home Income’.
Net income is also known as net earnings which mean net income of a firm. This is calculated by subtracting Cost Of Goods Sold by Sales.
Financial Terms To Know
Taking control of your life includes taking control of your finances. To understand the money you need to learn more about money. These are some basic financial terms that may trouble you throughout your life. Instead of neglecting them, understand them.
Don’t stop here, learn as much as you can. Learning concepts and definitions of finance will help you with your financial future.
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After all, sharing is caring and my goal with this blog is to share my knowledge with everyone! Thank you.