Glossary of Terms

Alpha: A measure of the difference between a portfolio’s actual returns and its expected performance, given its level of risk as measured by beta. A positive alpha figure indicates the portfolio has performed better than would have been expected. In contrast, a negative alpha indicates the portfolio has underperformed, given the expectations established by beta.

Basis Point: Is the smallest measure used in quoting yields on bills, notes and bonds.  One basis point equals one one-hundredth of one percent.  Therefore, 100 basis points equal 1%.

Beta: A measure of a fund’s sensitivity to market movements. The beta of the market is 1.00 by definition. A beta above 1 is more volatile than the overall market, while a beta below 1 is less volatile.

Bond Rating Categories:

  • AAA: An obligation rated “AAA” has the highest rating assigned by Standard & Poor’s. The obligor’s capacity to meet its financial commitment on the obligation is extremely strong.
  • AA+: An obligation rated “AA+” differs from the highest rated obligations only in small degree. The obligor’s capacity to meet its financial commitment on the obligation is very strong.
  • AA: An obligation rated “AA” differs from the highest rated obligations only in small degree. The obligor’s capacity to meet its financial commitment on the obligation is very strong.
  • A: An obligation rated “A” is somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than obligations in higher-rated categories. However, the obligor’s capacity to meet its financial commitment on the obligation is still strong.
  • BBB: An obligation rated “BBB” exhibits adequate protection parameters. However, adverse economic conditions or changing circumstances are more likely to lead to a weakened capacity of the obligor to meet its financial commitment on the obligation.
  • Below BBB: Obligations rated “BB,” “B,” “CCC,” “CC” and “C” are regarded as having significant speculative characteristics. “BB” indicates the least degree of speculation and “C” the highest. While such obligations will likely have some quality and protective characteristics, these may be outweighed by large uncertainties or major exposures to adverse conditions. Bonds rated “BB” or below are commonly referred to as “junk” bonds.
  • Non-Rated: These bonds are not rated.

Bullet Strategy: A portfolio strategy that concentrates the maturities of securities (bonds) in a portfolio around a centralized maturity date.

Carry Trade: A process whereby an investor sells a foreign currency (essentially borrowing within a foreign low interest rate environment) and uses the proceeds to invest in U.S. dollar denominated assets paying a higher rate of interest.  The spread between the cost of borrowing in foreign dollars and the reinvestment rate into U.S. denominated bonds is considered the “carry.”

Core Personal Consumption Expenditures (PCE) Deflator: A metric published by the Bureau of Economic Analysis. It is a measure of  price changes in consumer goods and services. It excludes food and energy prices in order to reveal underlying inflation trends without the volatility caused by movements in food and energy prices. It is the Fed’s preferred inflation measure.

Correlation: A statistical measure of how two securities move in relation to each other.

Coupon: The fixed percentage paid out on a fixed-income security on an annual basis.

Credit Spread: The difference in yield between Treasury securities and non-Treasury securities.

Debt-to-Equity Ratio: A measure of a company’s financial leverage. It is calculated by dividing its total liabilities by stockholders’ equity.

Duration: A measure of the sensitivity of a bond’s price (as a percentage of initial price) to a change in yield.

Earnings per Share (EPS): The portion of a company’s profit allocated to each outstanding share of common stock. EPS growth serves as an indicator of a company’s profitability.

Effective Maturity: A weighted average of the maturities of the bonds in a portfolio.

EV/EBIT (Enterprise Value / Earnings Before Interest and Taxes): A measure of a company’s earning power from ongoing operations, equal to earnings before deduction of interest payments and income taxes. EBIT excludes income and expenditure from unusual, non-recurring or discontinued activities. In the case of a company with minimal depreciation and amortization activities, EBIT is watched closely by creditors, since it represents the amount of cash that such a company will be able to use to pay off creditors.

EV/EBITDA (Enterprise Value / Earnings Before Interest, Taxes, Depreciation and Amortization): An approximate measure of a company’s operating cash flow based on data from the company’s income statement. It is calculated by looking at earnings before the deduction of interest expenses, taxes, depreciation, and amortization. This earnings measure is of particular interest in cases where companies have large amounts of fixed assets which are subject to heavy depreciation charges (such as manufacturing companies) or in the case where a company has a large amount of acquired intangible assets on its books and is thus subject to large amortization charges (such as a company that has purchased a brand or a company that has recently made a large acquisition).

Exchange-Traded Fund (ETF): A security that tracks an index, a commodity or a basket of assets like an index fund, but trades like a stock on an exchange. ETFs experience price changes throughout the day as they are bought and sold.

Federal Reserve (The Fed): The central banking system of the United States.

Free Cash Flow: A measure of how much cash a business generates after accounting for capital expenditures such as land, buildings or equipment.

Gross Domestic Product (GDP): The market value of all officially recognized goods and services produced within a country in a given period of time.

Information Ratio: A risk-adjusted performance measure. It measures excess return and risk relative to a specific benchmark index indicating how much a fund outperformed the benchmark per unit of additional risk taken.

Intrinsic Value: The actual value of a security, as opposed to its market price or book value. The intrinsic value includes other variables such as brand name, trademarks, and copyrights that are often difficult to calculate and sometimes not accurately reflected in the market price. One way to look at it is that the market capitalization is the price (i.e. what investors are willing to pay for the company) and intrinsic value is the value (i.e., what the company is really worth).

Long-Term Debt/Capital: A measurement of a company’s financial leverage, calculated as the company’s debt divided by its total capital. This ratio is helpful in determining the degree of reliance by a firm on long-term debt to finance its day-to-day operations.

Market Capitalization: The market capitalization represents the total value of a company or stock. It is calculated by multiplying the number of shares outstanding by their current price of one share.

Median Market Capitalization: The median is one type of average, found by arranging the values in order and then selecting the one in the middle.

Modified Duration: A time measure of a bond’s interest-rate sensitivity, based on the weighted average of the time periods over which a bond’s cash flows accrue to the bondholder. A bond’s duration will almost always be shorter than its maturity, with the exception of zero-coupon bonds, for which maturity and duration are equal.

OPEC: Is the Organization of the Petroleum Exporting Countries.

Piotroski Score: A discrete score between zero and nine, which reflects nine criteria used to determine the strength of a firm’s financial position. The Piotroski score is used to determine the best value stocks, with nine being the best. It was named after American professor Joseph Piotroski, who devised the scale according to specific criteria found in financial statements.

Price to Book (P/B) Ratio: The P/B ratio is used to compare a company’s book value to its current market price. This ratio compares the market’s valuation of a company to the value of that company as indicated on its financial statements. The higher the ratio, the higher the premium the market is willing to pay for the company above its hard assets. A low ratio may signal a good investment opportunity.

Price to Cash (P/C) Flow Ratio: The P/C flow ratio is a measure of a firm’s stock price relative to its financial performance. For a fund, the P/C flow ratio is the weighted average of all stocks held in the fund. It represents the amount an investor is willing to pay for a dollar generated from a particular company’s operations.

Price to Earnings (P/E) Ratio: The P/E ratio is a stock’s per share price divided by its per share earnings over a 12-month period. For a fund, the P/E ratio is the weighted average of all stocks held in the fund. The higher the P/E ratio, the more the market is willing to pay for each dollar of annual earnings.

Qualitative Easing: A form of monetary policy whereby a central bank purchases less-liquid and riskier assets.

Quantitative Easing: A monetary policy that the Federal Reserve, and other central banks, pursue to increase the supply of money and thereby expand liquidity in hopes of fostering stronger growth.

REIT: A REIT is a real estate investment trust.  REITs are securities that sell like a stock on a major exchange.  REITs invest directly in real estate, either through properties or mortgages.

Return on Assets: A measure of a company’s profitability relative to its total assets. This number tells you “what the company can do with what it’s got”.

Return on Equity (ROE): A measure of how well a company used reinvested earnings to generate additional earnings. It is used as a general indication of the company’s efficiency; in other words, how much profit it is able to generate given the resources provided by its stockholders.

Risk On, Risk Off: A concept that describes market sentiment as either “risk on” or “risk off.” During a market sentiment of “risk on,” the market is optimistic and more willing to take on risk in exchange for possibly better returns. When market sentiment is “risk off,” the market is pessimistic and will favor investments with perceived lower risk.

R-Squared: A measurement of how closely a fund’s performance correlates with the performance of a benchmark index. An R-squared of 100 indicates that all movements of a fund can be explained by movements in the index. Conversely, a low R-squared indicates that very few of the fund’s movements can be explained by movements in its benchmark index.

SEC Yield: The SEC Yield is a standardized method of computing return on investment that the U.S. Securities and Exchange Commission (SEC) requires mutual funds to use when advertising their yields. Its objective is to allow a confusion-free comparison of the performance of different funds.

Sharpe Ratio: A measure of the excess return achieved for a certain level of risk. The higher the Sharpe Ratio, the better the portfolio’s historical risk-adjusted performance. The Sharpe Ratio was developed by William Sharpe.

Split-Rated Bond: A bond that has received inconsistent ratings from the major rating agencies (Moody’s Investors Services Inc. and Standard & Poor’s Ratings Group) relating to its status as investment grade or high-yield. For example, one rating agency rates the bond as high yield while the other agency rates the same bond as investment grade.

Standard Deviation: Standard deviation is a statistical measure of the historical volatility of a fund. More generally, it’s a measure of the extent to which numbers are spread around their average. It depicts how widely a fund’s returns varied over a certain period of time. A high standard deviation implies greater volatility.

Tracking Error: A measure of how closely a fund follows the index to which it is benchmarked. Some funds are expected to replicate the returns of an index exactly (an index fund), while others are expected to be actively managed by deviating slightly from the index in an effort to generate greater returns.

VIX: The ticker symbol for the Chicago Board Options Exchange Market Volatility Index.  The VIX is a measure of the market’s expectation of stock market volatility over the next 30 day period.

Weighted Average Market Capitalization: An average that takes into account the proportional relevance of each component, rather than treating each component equally.

Yield to Maturity: Yield that would be realized on a bond or other fixed income security if the bond was held until the maturity date. It is greater than the current yield if the bond is selling at a discount and less than the current yield if the bond is selling at a premium.