Investment Terms

Learn the fundamentals

To some, investing may seem like an option available only to the wealthy. However, by utilising the basic, fundamental principles of investing and contacting a VM Wealth Advisor, you can be on your way to Financial Independence.

Diversification = Returns

The easiest way to maximise the returns on your investment is by choosing the right suite of investment/ and by diversifying the range of options in which your funds are invested. In short, choosing the right asset allocation. The more varied your asset classes, the more protection your investments will have against fluctuations in interest rates, stock prices and inflation and the greater your potential earnings.

Asset Allocation

Asset allocation simply means dividing investment funds among different asset categories, such as stocks, bonds, and cash/ cash equivalents to create an investment portfolio that best suits your needs. Making the right decision should be based primarily on your time horizon and how much risk you are willing to tolerate.

Time Horizon

Your time horizon is the length of time you have to meet your specific goals. If you are 25 years old and saving towards retirement, then you have a long time to reach your goal, this means that you are able to invest in riskier options because you are able to wait out the inevitable ups and downs of the market.

On the other hand if you are saving for a wedding or a deposit on your home, then you may prefer to take on less risk because the time horizon to meet the goal is shorter and can handle less volatility.

Risk Tolerance

Risk tolerance is your ability to tolerate fluctuations in the earnings on your investment or the willingness to accept the possibility of losses on your original investment in exchange for greater potential returns.

The more aggressive investor is willing to risk losing money in order to get better returns on their investment. On the other hand a conservative investor, or one with a low-risk tolerance, prefers investments that guarantee their original investment. The aggressive investor will take their chances with the hope of high returns; the conservative investor will embrace the certainty of maintaining what they have now, even at the risk of minimal returns.

Leveraging (or gearing)

Leveraging is borrowing money in order to supplement existing funds for investment in such a way that the potential return is enhanced. It generally refers to using borrowed funds, or debt, so as to attempt to increase the returns to equity. Deleveraging is the action of reducing borrowings

Money Market

This is where short term debt and monetary instruments, that which matures within one year, are traded.
Portfolio

A mix of assets held by an investor that is made up of varying instrument types such as stocks bonds, mutual funds, etcetera.
Bond

A debt investment in which an investor loans money to an entity (corporate or governmental) for a defined period of time at a pre-determined coupon interest rate.

Corporate Bond

Issued by companies that are seeking to raise funds to invest in their business. They are usually backed by the payment ability of the company based on future revenue; however, physical assets may also be used as collateral. Corporate bonds usually pay a higher rate of interest than Government bonds.

Government bond

Issued by Governments. Examples of Government bonds include Treasury bonds, notes and bills.

How a Bond Works

The issuer issues a bond that states the coupon rate that will be paid and the maturity date. A bond’s price changes on a daily basis, just like that of any other publicly-traded security. If investors hold bonds until maturity, their principal is returned. However, a bond does not have to be held to maturity. At any time, a bond can be sold in the open market, where the price can fluctuate.

Let’s look at what these terms mean.

Issuer

This is the entity that borrows the money and issues the bond.

Bondholder

The person who lends the money and purchases the bond.

Coupon

The interest rate that is paid on the instrument, set at issuance.

Yield to Maturity

The rate of return anticipated on a bond if it is held until the maturity date.

Basis Point

A unit that is equal to1/100th of 1%.

Reset Margin

The difference between the interest rate of a security and the index on which the security’s interest rate is based.

Benchmark Rate

A bond rate that provides a standard against which the performance of other bonds can be measured. Government bonds are usually used as benchmark bonds.

Principal

The amount loaned to the issuer. Also known as the Face Value or Par Value.

Maturity Date

The date when the bond principal is to be returned.

Primary Market

Where debt instruments are offered to investors for the first time, by the issuer, and usually at par.

Secondary Market

Where debt instruments are bought and sold amongst investors that are not necessarily the original issuer, and usually at a price above or below par.

At Par

A bond or preferred stock which is selling at a price equal to its face (or par) value.

Premium Bond

A bond that is trading above its par value. A bond will trade at a premium when it offers a coupon rate that is higher than prevailing interest rates.

Discount Bond

A bond that is trading below its par value.

Below Par

A bond or preferred stock which is selling at a price below its face (or par) value.

Share

A share is a unit of ownership interest in a company, when you receive shares in a company you become a part owner of that company.