Absolute Returns (gross and net): Actual returns achieved for a given holding period. A gross return is calculated prior to the deduction of management fees. A net return is calculated after the deduction of management fees.
Active Management: Investment Management where the Portfolio Manager actively makes investment decisions and initiates buying and selling of securities in an effort to maximize return. It is the opposite of Passive Management, where the money manager oversees a static portfolio structured to match the performance of a selected part of the market, or index.
Annualize: To convert to an annual basis. The expression of a rate of return over periods other than one year converted to annual terms. For example, a cumulative return of 21% over two years would convert into an annualized return of 10% per annum, even though each annual return may have looked nothing like 10%. For example, if an investment earned -2% in year one and 23.5% in year two, the compound annual return would be 10%. (See also Compounding)
Asset Allocation: Apportionment of investment funds among different asset classes (stocks, bonds, property, cash and international investments) from time to time in accordance with the investment outlook of the investor or investment manager. Asset allocation affects both risk and return and is a central concept in personal financial planning and investment management.
Balanced Fund: An investment portfolio that diversifies its holdings over a range of asset classes that typically include stocks, bonds and cash.
Basis Point: One basis point is .01%, or 1/100 of a percentage point. Thus 100 basis points equal 1% percent.
Bear: Someone who has a pessimistic market outlook and believes that stock prices will fall. (Opposite of a Bull)
Bear Market: A market where securities prices decline sharply. A bear market in stocks is usually brought on by the anticipation of declining economic activity, and a bear market in bonds is caused by rising interest rates. The opposite of a Bull Market.
Benchmark: Any basis of measurement, such as an index, that is used by an investment manager as a yardstick to assess the risk and performance of a portfolio. For example, the S&P 500® Index is a commonly used benchmark for U.S. Large Cap Equity portfolios.
Beta: A measure of a stock’s relative volatility to the market. Beta is a statistical estimate, based on historical data, of the average percentage change in a fund’s or a security’s rate of return corresponding to a one percent change in the market. The market index used will have a beta of 1. Any stock with a higher beta, say 1.20, will be more volatile than the market. Any stock with a lower beta, say 0.50 can be expected to rise and fall more slowly that the market.
Bond Rating: A method of evaluating the relative investment qualities of bonds by the use of rating symbols. Standard & Poor’s, Moody’s Investors Service, and Fitch Ratings analyze the financial strength of each bond’s issuer, whether a corporation or government body. Their ratings range from AAA (highest quality) to D (in default). Bonds rated BBB by Standard & Poor’s (Baa by Moody’s) or better are considered “investment grade” suitable for purchased by fiduciaries, banks, and insurance companies. Bonds given lower ratings are considered speculative investments.
Bull: A person who thinks stock prices will rise. One can be bullish on the prospects for an individual stock or bond, an industry segment, or the market as a whole. In a more general sense, bullish means optimistic, so a person can be bullish on the economy as a whole. (Opposite of a Bear)
Bull Market: An advancing market, characterized by a prolonged rise in the prices of stocks and/or bonds. The opposite of a Bear Market.
Cash Equivalents: Short-term investments held in lieu of cash and readily converted into cash within a short time span (i.e., CD's, commercial paper, Treasury bills, etc.), generally with maturities of no longer than 180 days. Often referred to, along with cash, as liquid assets.
Common Stock: Equity securities issued as ownership shares in a publicly held corporation. Shareholders have voting rights and may receive dividends based on their proportionate ownership.
Compound Interest: A method of interest calculation where, in each period, interest is calculated on both the principal and interest previously accrued. Interest may be compounded daily, monthly, quarterly, semiannually, or annually. (Contrast with Simple Interest)
Consumer Price Index: An index measuring the prices at various times of a selected group of goods and services that typify those bought by ordinary urban U.S. households. The basket includes food, transportation, shelter, utilities, clothing, medical care, entertainment, and other items. It is published by the Bureau of Labor Statistics and allows comparisons of the relative cost of living over time. It is widely used as a measure of inflation.
Derivative Instrument: Securities that derive their value from the performance of an underlying security (e.g. futures and options). Derivatives afford leverage and, when used properly by knowledgeable investors, can enhance returns and be useful in hedging a portfolio.
Diversification: The spreading of investment funds among classes of securities and localities in order to distribute the risk. It favors the maxim: "Don't put all your eggs in one basket."
Duration: A measure of the sensitivity, or volatility, of fixed income investments to changes in interest rates. The greater the duration of a bond, the more sensitive the bond is to changes in the underlying interest rate. Duration takes into account not only the redemption date but also all the dates on which interest is paid and the amount of this interest. Duration attempts to measure actual maturity, as opposed to final maturity, by measuring the average time required to collect all payments of principal and interest. It considers the coupon yield, interest payments, maturity, and call features. It is a weighted-average term-to maturity of the bond’s cash flows, the weights being the present value of each cash flow as a percentage of the bond’s full price.
Global Manager: A manager whose portfolio may include securities of firms that are located throughout the world, including the United States.
Growth Stock: The stock of corporations whose earnings have increased consistently over a number of years and show every indication of considerable further expansion. Most growth stocks provide a relatively low dividend yield. They are primarily attractive for price appreciation potential, especially from a long-range standpoint. Growth companies should have the following characteristics:
- An aggressive management team.
- Strong emphasis on research and development.
- A favorable record of sales and earnings.
- A line of essential products that seems destined to increase in popularity over the years, while new ones are constantly introduced.
Index Fund: A fund (or account) comprised of securities the characteristics of which will produce a return that will replicate (or substantially replicate) a designated securities index.
Interest-Rate Risk: Risk that changes in interest rates will adversely affect the value of an investor’s securities portfolio. When interest rates rise, the market value of fixed-income contracts (such as bonds) declines. Similarly, when interest rates decline, the market value of fixed-income contracts increases.
International Manager: A manager whose portfolio would be comprised of securities of firms outside the United States.
Large-Cap: For the U.S. market, large-cap stocks are generally accepted to be stocks of corporations that have a market capitalization above $5 billion. Note that this threshold will be different in other investment markets, depending on the range of capitalizations in that particular market.
Liquidity: a) The ability of an investment to be easily converted into cash with little or no loss of capital and minimum delay. An example of a highly liquid asset is a short term Treasury bill, while property is a relatively illiquid investment. For many securities, the degree of liquidity depends on the depth of the secondary market for that security. b) The maintenance of cash or cash like reserves by a pension fund to be available to fund disbursement for retirement, disability or separation.
Long Term Bond Manager: A bond manager whose portfolio normally averages between six and ten years in duration.
Mandate: The agreed objectives given by an investor to his or her investment manager, often including a benchmark portfolio, guidelines as to maximum and minimum sector exposures, and prohibited investments.
Market Capitalization: The sum of the total amount of various stocks issued by a corporation, multiplied by the price of those stocks. Market Capitalization includes the value of all listed classes of stocks for a corporation (e.g. preference shares, ordinary shares etc.)
Market Price: With reference to a security, the last reported price at which the security sold. Alternatively, the highest price that a buyer, willing but not compelled to buy, would pay, and the lowest a seller, willing but not compelled to sell, would accept.
Market Risk: The part of a security’s risk that is common to all securities of the same general class and thus cannot be eliminated by diversification. Also known as Systematic risk.
Market Timing: The purchase or sale of securities on the basis of shorter-term price patterns and temporary market opportunities as well as judgments of underlying value. It is considered a difficult thing to get right consistently.
Maturity: The date on which a loan, bond, mortgage or other debt/security becomes due and is to be paid off.
Mid-Cap: For the U.S. market, mid-cap stocks are generally accepted to be stocks of corporations that have a market capitalization that falls in the range of $1 billion to $5 billion. Note that this range will be different in other investment markets, depending on the range of capitalizations in that particular market.
Modern Portfolio Theory: Sophisticated investment decision approach that permits an investor to classify, estimate, and control both the kind and the amount of expected risk and return. It departs from traditional security analysis in shifting emphasis from analyzing the characteristics of individual investments to determining the statistical relationships among the individual securities that comprise the overall portfolio.
Money Market: The market in which short-term debt instruments (Treasury bills, commercial paper, banker’s acceptances, certificates of deposit, discount note of federal agencies, etc.) are issued and traded.
Money Market Fund: Mutual fund that invests solely in money market instruments. The fund’s net asset value remains a constant $1 a share – only the interest rate goes up or down.
New York Stock Exchange: An unincorporated, voluntary association founded in 1792 and existing under a written constitution and by-laws. Membership must be approached by a Committee on Admissions, and is obtained by purchasing a Seat from a retiring, deceased, or expelled member. Privileges include the right to buy and sell securities on the trading floor of the Exchange for one's own account or for others.
No Load Fund: A mutual fund offered by an open-end investment company that imposes no sales charge (load) on its shareholders. The mutual fund still has underlying investment management expenses and may have marketing fees known as 12b-1 fees. The shares are generally sold directly to the public by the sponsoring firm.
Operating Fund: Fund that contains the property, equipment and other operating assets of GuideStone®.
Passive Index: A benchmark that represents a passive strategy, or one that is not actively managed.
Passive Management: A style of investment management that seeks to attain performance equal to the market or a particular index. In pure index funds, no judgments are made about future market movements, although more sophisticated managers usually offer tilted portfolios.
Price-Earnings Ratio (PE Ratio): A stock’s market price divided by its current or estimated future earnings per share. A fundamental measure of the attractiveness of a particular security versus all other securities as determined by the investing public. The higher the P/E, the more investors are paying, and therefore the more earnings growth they are expecting. The lower the ratio relative to the average of the stock market, the lower the (market’s) profit growth expectations.
Prospectus: A legal document setting forth the complete history and current status of a security issue that must be made available to all interested purchasers in advance of a public offering under the Securities Act of 1933. Prospectuses are also issued by mutual funds, describing the history, background of managers, fund objectives, a financial statement, and other essential data.
Prudent Man Rule: A common law standard application to the investment of trust funds. Briefly stated: "All that can be required of a trustee in the investment of trust funds is that he conduct himself faithfully and exercise sound discretion. He is to observe how men of prudence, discretion and intelligence manage their own affairs, not in regard to speculation, but in regard to the permanent disposition of their funds, considering the probable income as well as the probable safety of the capital to be invested." (IF Trustees Handbook, 1970 ed.)
Prudent Investor Rule: A legal doctrine which provides guidance to investment managers regarding the standards for managing an investment portfolio in a legally satisfactory manner. The new rule contains five basic principles: 1) Sound diversification is fundamental to risk management and is therefore ordinarily required of trustees. 2) Risk and return are so directly related that trustees have a duty to analyze and make conscious decisions concerning the levels of risk appropriate to the purposes, distribution requirements, and other circumstances of the trusts they administer. 3) Trustees have a duty to avoid fees, transaction costs and other expenses that are not justified by needs and realistic objectives of the trust's investment program. 4) The fiduciary duty of impartiality requires a balancing of the elements of return between production of income and the protection of purchasing power. 5) Trustees may have a duty as well as having the authority to delegate as prudent investors would. This delegation is often in the form of investing in mutual funds.
Prudent Expert Rule: The Employee Retirement Income Security Act of 1974 (ERISA) applies a revised and restated version of the prudent man rule to pension and profit-sharing portfolios. ERISA requires that a fiduciary manage a portfolio “with the care, skill, prudence, and diligence, under the circumstances then prevailing, that a prudent man acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of a like character and with like aims.” This statement differs from the classic prudent man rule in that familiarity with such matters suggests a higher standard than simple prudence—hence the name, prudent expert rule. Other provisions of the law and U.S. Department of Labor regulations suggest a portfolio approach under which a position imprudent in isolation may be acceptable in a portfolio context.
Real Return: An inflation–adjusted return. It is the return, that when compounded with inflation gives the nominal return for the same security. For instance, if the return on a stock was 10% for a one year period and inflation over that time was 2% then the real return on that stock was (1.10 1.02 – 1) x 100 = 7.8. (See Nominal Return)
Rule of "72": A convenient technique for either mental or pencil-and-paper estimation of compound interest rates - derived from the fact that a 7.2% return per year is the interest rate that will double the value of an investment in ten years. Hence, "years to double" an investment with a given annual rate of return can be estimated by dividing the "rate of return" into 72. For example, if an investment's annual is six percent, its value will double in approximately 12 years (72 divided by six). If an investment's annual return is nine percent, its value will double in approximately eight (72 divided by nine) years. Similarly, the "rate of return" that will double the value of an investment in a given number of years can be estimated by dividing the number of "years to double" into 72. For example, the value of an investment will double in six years if the annual rate of return is approximately 12%.
Securities and Exchange Commission (SEC): An organization created by an act of Congress, entitled the "Securities Exchange Act of 1934." The SEC is an independent bipartisan, quasi-judicial agency of the United States Government. The laws administered by the Commission relate in general to the field of securities and finance and seek to provide protection for investors and the public in their securities transactions.
Timing: The art of deciding upon the exact moment to buy before an advance gets underway or to sell before a decline. Timing is perhaps the most difficult of all market factors to achieve correctly.
Volatility: Characteristic of a security, commodity, or market to rise or fall sharply in price within a short-term period. A measure of the relative volatility of a stock to the overall market is its beta. The higher the volatility the higher the standard deviation – the most common measure of risk.
Yield Curve: A visual representation of the term structure of interest rates by plotting the yields of all bonds of the same quality within maturities ranging from the shortest to the longest available. It shows the relationship between bond yields and maturity lengths. A normal or positive yield curve signifies higher interest rates for long-term investment, while a negative or downward curve indicates higher short-term rates.
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