The Financial Glossary

Tommy

Just a Millennial living in the real world...

Welcome to the Millennial Finance & Travel blog! Just like the law and health care industries, the world of finance can be very confusing. What is a Roth IRA? What is compound interest? What does CPI stand for?

That’s why I love the movie, The Big Short, which is about build-up of the Great Recession. It came out in 2015 with a star studded cast, including Steve Carrell, Christian Bale, and Ryan Gosling and it’s based off of the book, The Big Short: Inside the Doomsday Machine by Michael Lewis. They broke down some complicated financial terms into ways a normal person could understand. For example, when Selena Gomez was explaining how synthetic CDO’s work. The Big Short was nominated for best picture at the 2015 Oscars and if you haven’t seen it, I would highly recommend it.

Before I get into writing a ton of blog posts, let’s start with a glossary of financial terms that I will use in future posts. I’d figured I should start with a post that explains basic financial terms that many people probably don’t know what they mean. Now, I know that I will be missing some terms, but I will cover a lot of them and if I miss one then there is a great invention called Google. The terms will be broken down by category and will be in alphabetical order.

General Terms:

After Tax Income: Income paid to you after federal income taxes, social security taxes, medicare taxes, state income taxes, 401(k)/IRA contributions, health savings account/flexible spending account contributions, etc.
Anniversary Year: 365/366 days starting on the date of when your credit card is renewed.
Asset: A resource with economic value that will benefit an individual or corporation. Ex.) Cash, home, or car.
Basis Point (Bps): A unit of measure to describe a percentage change in the value of a financial instrument. 1 bps is 0.01% or 1/100th. Ex.) The FED decreased interest rates by 50 bps or 0.5%.
Calendar Year: 365/366 days starting January 1.
Cash Flow: Cash is King. Cash flow is an increase or decrease of cash in a certain period of time.
Capital: Financial assets and usually refers to cash. Ex.) Apple had to raise capital to finance it’s R&D team for its new spaceship.
Commodity: A basic good used in commerce that is interchangeable with other commodities of the same type. Ex.) A barrel of oil, corn, currencies, or gold/silver.
Depreciation: The method of allocating cost of a tangible asset over time. Assets such as a car or equipment will typically depreciate over time.
Equity: The value of an asset minus any liabilities. Ex.) The equity in your home is the value of your home minus any loans.
Expense: The cost of personal or daily living. Ex.) Rent/mortgage payments, health insurance premiums, or electricity bills.
Fair Market Value (FMV): The price that a given asset would get in the marketplace. Ex.) Your home’s FMV is $500,000 when you purchased it for $250,000 back in 2012.
Income: The money you earn.
Interest: The cost of borrowing money.
Liability: A debt or obligation that is owed to someone else. Ex.) Mortgage, student loan, or auto loan payments.
Liquidity: How quickly an asset can be sold in the market for cash. Ex.) A stock is very liquid, but a rare old art collection is not very liquid. Cash is the most liquid asset.
Net Worth: Asset minus liabilities. Similar to equity.
Payroll Taxes: Taxes that employers withhold from your paycheck and pay to the government. Ex.) Federal taxes, social security taxes, medicare taxes, and state income taxes.
Pre-Tax Income: Your gross income before taxes.
Principal: (Investing) The original amount invested or (Lending) the original amount that was borrowed.

Banking:

Automated Clearing House Transaction (ACH): A way to move money electronically without using paper checks, wire transfers, credit card networks, or cash.
Adjustable Rate Mortgage (ARM): A mortgage with a variable interest rate, which is based on a benchmark such as the Wall Street Journey Prime Rate. Also called a floating rate mortgage.
Annual Percentage Rate (APR): The annual rate charged for borrowing expressed as a single percentage number that represents actual yearly costs over the term of the loan. Those costs include loan fees, title insurance, appraisal fees, and other costs.
Balloon Mortgage: A mortgage where the entire balance is owed at the end of maturity.
Certificate of Deposit (CD): A savings certificate issued by a bank entitling a person to earn interest by depositing money for a certain length of time. Typical time periods are 1-month, 3-months, 6-months, 12-months, 5-years, and 10-years. The longer the period, the higher the interest rate.
Checking Account: A deposit account at a bank that the account holder can withdrawal and deposit funds. Also called a Demand Deposit Account (DDA).
Collateral: An asset that a borrower offers a lender to secure a loan. Ex.) A mortgage on your home.
Compound Interest: Interest calculated on the initial principal and also accumulated interest of previous periods of a deposit or loan.
Co-Borrower: A person who signs onto a loan as an additional borrower of the debt. Usually occurs when a borrower doesn’t quality for a loan by his or herself.
Credit Score: A score that lenders use to judge the credit worthiness of a borrower. Higher credit scores mean the borrower is more likely to repay the loan. FICO score is the most popular.
Debt to Income Ratio: Monthly income divided by monthly debt service. A measure that lenders use to help determine a borrower’s credit worthiness. Lenders typically look for a DTI below 36%.
Escrow: A financial instrument held by a third party on behalf of the other two parties of the transaction. Ex.) An escrow account is used to pay real estate taxes to the county. The borrower contributes money to the account to pay for real estate taxes for when they come due.
Fixed Rate Mortgage: A mortgage with a fixed rate throughout the term. This is the most popular type of mortgage.
Guarantor: A person who guarantees to pay for someone else’s debt if she or she would default on a loan.
Home Equity Line of Credit (HELOC): A line of credit extended to a homeowner that uses the borrower’s home as collateral. This is usually a second mortgage behind a borrower’s first mortgage. The borrower may draw upon the line and repay the debt over time.
Home Equity Loan: A mortgage that is extended to a homeowner based upon the equity of the home. The loan is usually a second mortgage and is typically used to pay for home improvements.
Maturity: A period of time for which a debt remains outstanding.
Maturity Date: The date for which a debt becomes due.
Money Market Savings Account (MMSA): A savings account with some checking features like paper checks and a debit card with a limited amount of transactions per month. Typically have a higher interest rate than a savings account and checking account.
Nominal Interest Rate: The interest rate before inflation.
Overdraft: An extension of credit by the lender when the account reaches zero. An overdraft allows the individual to continue withdrawing money even when the account has zero funds. The bank will cover checks that would otherwise bounce. This is provided as overdraft protection.
Private Mortgage Insurance (PMI): Insurance that covers the lender in the case a borrower defaults on their loan. This usually comes into play when you don’t have a 20% down payment when purchasing a home.
Reverse Mortgage: A mortgage in which the homeowner can borrower money against the value of their home. No repayment of the mortgage is required until the borrower passes away or the home is sold.
Savings Account: An interest-bearing account held at a bank or financial institution. Typically more flexible than a MMSA and lower interest rate.

Economics:

Consumer Price Index (CPI): A measure that examines the weighted average of prices of a basket of consumer goods and services. Changes in the CPI are used to assess the change in the cost of living.
Deflation: The general decline of prices.
Depression: A severe and prolonged downturn in the economy.
Gross Domestic Product (GDP): The monetary value of all finished goods and services produced within a country’s borders within a certain period of time.
Inflation: The general rise in prices. The purchasing power of currency falls as goods and services become more expensive.
Labor Force Participation Rate: A measure of an economy’s active workforce. The formula is the sum of all workers who are employed or actively seeking employment divided by the non-institutionalized, civilian working-aged population.
Recession: A significant decline in activity across the economy.
Supply and Demand: The amount of a commodity, product, or service available and the desire of buyers for it regulating its price.
Underemployment Rate: The share of people who are underemployed within a country. Also, called the U-6 unemployment rate.
Unemployment Rate: The share of jobless within a country. Also, called the U-3 unemployment rate.

Estate Planning:

Beneficiary: Person or people who benefit from something like a trust, will, or life insurance policy.
Capacity: The legal competence of performing an act.
Decedent: Person who has died.
Estate Tax: Tax imposed by the US government on the transfer of property from the decedent to the beneficiaries. Known as the death tax.
Executor: One nominated in the will and appointed by the Probate Court to manage and distribute the decedent’s estate.
Fiduciary: A person or organization who acts on behalf of another person or persons to manage assets.
Heir: The person entitled to the distribution of an asset or property. Heirs will receive the assets if no valid will or trust is established.
Irrevocable Trust: A trust that cannot be modified once it has been established.
Joint Tenancy: A form of joint ownership of property that carries an automatic right of survivorship. If one person dies, then the survivor will own the property automatically.
Living Will: The instrument used to express one’s wishes in the event of irreversible terminal illness.
Power of Attorney: A legal instrument where one appoints and empowers another person as agent to deal with one’s property and affairs.
Probate: The process usually administered by a probate court that supervises the transfer of legal title of property from the decedent to their beneficiaries or heirs.
Revocable Living Trust: A trust that is established by an individual or married couple and can be modified once it has been established.
Tenants in Common: A form of co-ownership in which a deceased tenant’s share passes to his/her heirs or beneficiaries through his/her estate under the terms of a will.
Trust: A legal instrument in which “legal title” to the assets is transferred to a Trustee who therefore has a fiduciary duty to manage and distribute the assets for the benefit of the beneficiaries of the trust according to the terms and conditions of the Declaration of Trust.
Trustee: One who holds legal title to Trust assets, managing and distributing assets in accordance with the terms and conditions of the Declaration of Trust.
Trustor: One who establishes a trust.
Will: A legal instrument traditionally used to direct disposition of one’s property after death.

Government:

Federal Housing Administration (FHA): A US government agency that provides mortgage insurance to qualified, FHA approved lenders.
Federal Home Loan Mortgage Corporation (FHLMC): Better known as Freddie Mac. A government sponsored enterprise (GSE) created to keep money flowing to mortgage lenders in support of home ownership and rental housing for middle income Americans.
Federal National Mortgage Association (FNMA): Better known as Fannie Mae. A GSE created to expand the flow of mortgage money by creating a secondary market.
Federal Open Market Committee (FOMC): A branch of the FED Board that determines the direction of monetary policy.
Federal Reserve Bank (FED): The central bank of the United States.
Securities and Exchange Commission (SEC): A government commission created by Congress to regulate the securities market and protect investors.

Insurance:

Cash Surrender Value: The sum of money an insurance company will pay to the policyholder in the event a policy is voluntarily terminated.
Deductible: A specific amount of money that the insured must pay before the insurance company will pay a claim.
Face Value: The amount of insurance given out. Also called the death benefit in a life insurance policy. This is not the cash value.
Grace Period: The provision in insurance contracts that allows payment to be received for a certain time period after the due date. no late payments will be charged and it will not cancel the insurance contract.
Out of Pocket Costs: Costs that the insured pays out of pocket usually up to a certain limit.
Premium: Amount of money paid to the insurance company to insure coverage to the policyholder.
Term Life Insurance: A policy with a set duration on the coverage period and will provide a death benefit to the beneficiaries when the policyholder dies.
Whole (Permanent) Life Insurance: An insurance policy with level premiums with an insurance and cash value component. The insurance component provides the death benefit and also a cash value.
Variable Life Insurance: A permanent life insurance policy with an investment component. The cash value can be invested into the market.

Investing:

529 College Savings Plan: A tax advantage savings plan used to provide for future college expenses. The money is not subject to federal income taxes as long as the money is used for qualified education expenses such as tuition, room & board, mandatory fees, books, computers, etc.
Actively Managed Fund: A fund managed by a Portfolio Manager.
Alpha: A measure of performance on a risk-adjusted basis. Known as the rate of return of an investment.
Bear Market: A market condition in which the prices of securities are falling. Experts say a downturn of 20% over at least a two-month period is the entry of a bear market.
Beta: An investment’s volatility.
Bid/Ask Spread: The difference between the ask price and bid price. Bid price is the highest price that a buyer will pay for a stock. Ask price is the lowest price that a seller will accept. This spread is how investment platforms make money.
Blue Chip Stocks: Industry leading companies that have been around for a very long time. These companies are safe, profitable, and long-lasting companies. Ex.) Apple, JPMorgan Chase, and Coca-Cola.
Bond: A debt investment in which the investor lends money to an entity, which borrows the funds for a defined period of time at a variable or fixed interest rate.
Brokerage Account: An arrangement between an investor and a licensed brokerage firm that allows the investor to deposit funds within the firm and place investment orders through the firm, which places orders on the investor’s behalf.
Bull Market: A market condition in which the prices of securities are rising or expected to rise. Experts say stock prices rise by 20% usually after a drop of 20% and before a second 20% decline.
Buy and Hold Strategy: Buy an investment and hold for a specific period of time.
Chicago Board Options Exchange Volatility Index (VIX): A real-time index that represents the market’s expectation of 30-day forward looking volatility.
Common Stock: A security that represents ownership in a company.
Discount: The condition of the price of a bond that is lower than par value.
Dividend: A sum of money paid regularly out of company profits or reserves to its shareholders. Dividends are usually paid quarterly.
Dow Jones Industrial Average (DJIA): A price-weighted average of 30 significant stocks traded on the NYSE and NASDAQ.
Earnings per Share (EPS): The portion of a company’s profit allocated to each outstanding share of common stock.
Exchange Traded Fund (ETF): A marketable security that tracks an index, commodity, bonds, or an index fund.
Expense Ratio: A measure of what it costs an investment company to manage a mutual fund/ETF.
Face Value: The nominal value or stated value of a security stated by the issuer. For a stock, it is the original cost of the stock shown on the certificate. For bonds, it is the amount paid to the holder at maturity.
Hedge Fund: Alternative investments using pooled funds that may use a different number of strategies in order to earn an active return.
Initial Public Offering (IPO): The first sale of stock by a private company to the public.
Load: A fee that is charged when you purchase a mutual fund. Front loads are applied at purchase and back loads are applied when you sell a mutual fund.
Long Position: Buying a security with the expectation that the security will rise.
Market Capitalization: The total dollar market value of all of a company’s outstanding shares. Calculated by share price multiplied by shares outstanding. The investment community uses this figure to determine a company’s size. Large cap companies have a market capitalization of $10 billion+, mid cap companies are $2 billion to $10 billion, and small cap companies are $250 million to $2 billion.
Mutual Fund: An investment vehicle that is made up of a pool of funds collected from many investors for the purpose of investing in securities.
NASDAQ: A global electronic marketplace for buying and selling securities, as well as a benchmark for US technology stocks.
New York Stock Exchange (NYSE): A stock exchange that is located in New York City and is the largest stock exchange in the world.
Passively Managed Fund: A fund that mirrors a market index such as the S&P 500.
Premium: The difference between the higher priced paid for a fixed-income security and the security’s face amount at issue.
Prospectus: A formal legal document, which is required by and filed with the SEC, that provides details about an investment offering for sale to the public.
Real Estate Investment Trust (REIT): A type of security that invests in securities through property or mortgages and often trades on major exchanges like the NYSE.
Risk Tolerance: The degree of variability in investment returns that an investor is willing to withstand in their financial planning. A high risk tolerance means the investor prefers a higher return, which means there is higher risk. A low risk tolerance means the investor prefers lower risk with lower returns. This is very important when it comes to investing and you need to be honest with yourself.
Short Position: Buying a security with the expectation that the security will decline.
Standard & Poors 500 Index (S&P 500): An index of 500 stocks chosen for market size, liquidity, industry grouping, and among other factors. The S&P 500 is a market-weighted index meaning each stock’s weight is proportionate to its market value.
Volatility: The statistical measure of the dispersion of returns for a given security or market index. The higher the volatility, the riskier the investment.

Real Estate:

Appraisal: A report that gives an estimated value of a property.
Closing: An event in which the completes a real estate transaction by transferring ownership from the seller to buyer.
Closing Costs: Costs of closing a loan. Typical costs include loan fees, title insurance, appraisal fees, and other costs.
Down Payment: A payment made in cash during the onset of purchasing an expensive good/service. Ex.) Homes usually require 20% down payments, but can be as little as 3% nowadays.
Due Diligence: A given period of time for the buyer to fully examine a property.
Earnest Money: Also known as a good faith deposit. The initial funds that a buyer is asked to put down when the seller accepts the buyer’s offer. Typically 1-5% of sales price.
Homeowner’s Association (HOA): A private association that manages a planned community or condominium. You agree to abide by the HOA’s rules and usually pays monthly HOA dues.
Inspection: When the buyer pays a licensed professional to inspect the condition of the property.
Multiple Listing Service (MLS): A database that allows real estate agent and broker members members to access and add information about properties for sale in a given area.
Pre-Approval: Buyers are pre-approved by a lender for a specific purpose price and loan amount based upon the buyer’s ability to repay and credit worthiness.
Short Sale: The property is being sold for less than the debt secured by the property.
Title Insurance: Insurance that protects the lender from financial loss sustained from defects in a title to the property.
Title Search: Examines public records for transaction history and potential liens against the property.

Retirement:

401(k), 403(b), and 457 plans: A qualified retirement plan established by employers to which eligible employees may make salary deferral contributions on a pre-tax basis. Employers may offer a matching contribution to the plan. Earnings accrue on a tax-deferred basis. 401(k) is for private companies, 403(b) is for nonprofit organizations, and 457 plans are for state & local governments.
Annuity: A contractual financial product sold by financial institutions that is designed to accept and grow funds from an individual and then, upon annuitization, pay out a stream of fixed payments to the individual at a later point in time.
Defined Benefit Plan: An employer-sponsored retirement plan where employee benefits are sorted out based upon a formula using salary history and duration employment. Investment risk and portfolio management are entirely under the control of the employer. The employer guarantees that the employee will receive a definite amount of benefits upon retirement. Payouts are dependent on invested funds. If there is a shortfall in invested funds, then the company has to dip into company earnings to fund the shortfall.
Defined Contribution Plan: A retirement plan in which a certain amount of money is set aside each year by the company for the benefit of the employee. The final benefit received by the employee depends on the performance of the invested funds.
Individual Retirement Account (IRA): Allows individuals to direct pre-tax income, up to specific annual limits, toward investments that can grow tax-deferred. Contributions grow tax free and they may be tax-deductible depending on the taxpayer’s income, filing status, etc. There is a 10% penalty for early withdrawals before age 59.5. At age 70.5, there are required minimum distributions that must be made.
Medicare: Part A and Part B. A US federal government health insurance program that subsidizes healthcare services. The plan covers people over age 65 who meet specific eligibility requirements. Part A covers costs billed by hospitals or similar inpatient setting. Part B covers outpatient care such as doctor visits, preventive services, ambulatory services, certain medical equipment, and mental health coverage. Part C (Medicare Advantage) must offer coverage that is at least equivalent to Medicare Part A & B. Part D covers prescription drug costs.
Roth IRA: A retirement account where distributions are tax-free, but contributions are taxed at the taxpayer’s marginal tax rate. Contributions are not tax deductible. In order to take a distribution, you must be age 59.5 and you have to have owned the Roth IRA for at least 5 years.
Savings Incentive Match Plan for Employees (SIMPLE) IRA: Employers can choose to make a 2% retirement account contribution to all employees or an optional matching contribution up to 3%. Employees can contribute up to $13,500 in 2020.
Simplified Employee Pension (SEP) IRA: A retirement plan that an employer or self-employed individuals can set up. Employers can make tax-deductible contributions on behalf of eligible employees and there is no minimum contribution amount per year. They are treated like IRAs, but they have higher contribution limits and employees are vested immediately. An individual must be 21 years old, worked for the employer for 3 of the past 5 years, and make more than $600 for the year to qualify for an employee SEP IRA.
Social Security: Payments made to qualified retirees and disabled people and to their spouses, children, and survivors. Available at age 62 and have to pay into the system for at least 10 years.

Taxes:

Adjusted Gross Income (AGI): A modification of gross income. AGI factors in a number of deductions from one’s gross income to reach a figure that the individual’s income will be calculated.
Capital Gain or Loss: An increase or decrease in value of a capital asset such as a stock.
Cost Basis: The cost of a security after commissions and other expenses.
Effective Tax Rate: Total tax divided by taxable income. Amount of tax you paid based on your taxable income.
Flexible Spending Account:A savings account that allows employees to contribute a portion of their pre-tax earnings to pay for qualified expenses, such as medical or dependent child care expenses.
Gross Income: Total income before taxes or other deductions.
Health Savings Account: An account created for individuals with high deductible health plans (HDHPs) to save for medical expenses not covered by the plan.
Marginal Tax Rate: The amount of tax paid on an additional dollar of income. The marginal tax rate will increase as the individual’s income increases.
Ordinary Income: Any type of income earned by an organization or an individual that is taxable at ordinary rates.
Standard Deduction: A portion of income not subject to income tax that can be used to reduce your tax bill.
Taxable Income: Amount of income used to calculate how much tax an individual or company owes the government. AGI minus any deductions or exemptions.
Tax Credit: An amount of money that the taxpayer is allowed to subtract from the amount of income tax they owe to the government.
Tax Deduction: A deduction from gross income that arises due to various types of expenses incurred by the taxpayer.

I will update this page with any terms that I missed and I feel that are important. Hope this helps you learn some new financial knowledge!

Source: Investopedia