Jargon Buster

A measure of performance on a risk-adjusted basis. Alpha takes the volatility (price risk) of a mutual fund and compares its risk-adjusted performance to a benchmark index. The excess return of the fund relative to the return of the benchmark index is a fund's alpha.

A measure of the volatility, or systematic risk, of a security or a portfolio in comparison to the market as a whole. Beta is used in the capital asset pricing model (CAPM), a model that calculates the expected return of an asset based on its beta and expected market returns. Also known as "beta coefficient."

Top-down investing is an investment approach that involves looking at the "big picture" in the economy and financial world and then breaking those components down into finer details. After looking at the big picture conditions around the world, the different industrial sectors are analyzed in order to select those that are forecasted to outperform the market. From this point, the stocks of specific companies are further analyzed and those that are believed to be successful are chosen as investments.

An investment approach that de-emphasizes the significance of economic and market cycles. This approach focuses on the analysis of individual stocks. In bottom-up investing, therefore, the fund manager/ investor focuses his or her attention on a specific company rather than on the industry in which that company operates or on the economy as a whole.

A fixed sum of money can be invested regularly and over time it averages out the costs. For instance, if one were to buy units of a mutual fund - by following rupee cost averaging, the fixed amount of money will fetch more units when the net asset value of the units are down, and vice versa. Investing through SIP in a mutual fund is the example of Rupee Cost Averaging.

A strategy whereby an investor seeks out stocks with what they deem good growth potential. In most cases a growth stock is defined as a company whose earnings are expected to grow at an above-average rate compared to its industry or the overall market.

The strategy of selecting stocks that trade for less than their intrinsic values. Value investors actively seek stocks of companies that they believe the market has undervalued. They believe the market overreacts to good and bad news, resulting in stock price movements that do not correspond with the company's long-term fundamentals. The result is an opportunity for value investors to profit by buying when the price is deflated.

Market capitalization is the total market value of all of a company's outstanding shares. Market capitalization is calculated by multiplying a company's shares outstanding by the current market price of one share. The investment community uses this figure to determine a company's size, as opposed to sales or total asset figures.

A ratio used to compare a stock's market value to its book value. It is calculated by dividing the current closing price of the stock by the latest quarter's book value per share. Calculated as Stock Price/Total Assets - Intangible Assets and Liabilities.

A valuation ratio of a company's current share price compared to its per-share earnings. Calculated as: Market Value per Share/Earnings per Share (EPS).

Earnings Per share is the Net Profit of the company divided by the total number shares. It is often referred to as EPS.

A statistical measure that represents the percentage of a fund or security's movements that can be explained by movements in a benchmark index. For fixed-income securities, the benchmark is the T-bill. For equities, the benchmark is Nifty/Sensex. R squared greater than 1 indicates fund has outperformed the index and vice versa.

The amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation's profitability by revealing how much profit a company generates with the money shareholders have invested.ROE is expressed as a percentage and calculated as: Return on Equity = Net Income/Shareholder's Equity. Net income is for the full fiscal year (before dividends paid to common stock holders but after dividends to preferred stock.) Shareholder's equity does not include preferred shares .Also known as "return on net worth" (RONW).

A ratio developed by Nobel laureate William F. Sharpe to measure risk-adjusted performance. The Sharpe ratio is calculated by subtracting the risk-free rate - such as that of the 10-year G-Sec - from the rate of return for a portfolio and dividing the result by the standard deviation of the portfolio returns.

A rate of return for a given period that is less or more than one year, but that is adjusted to show the return this would equate to over a 1 year period.

The compound annual growth rate (CAGR) is the mean annual growth rate of an investment over a specified period of time longer than one year.

One-hundredth of one percent, i.e. 1% is equal to 100 basis points. Yields of money market instruments and money market funds are often quoted in basis points as opposed to fractions.

Banks in India are required to hold a certain proportion of their deposits (NDTL) in the form of cash. However, actually Banks don’t hold these as cash with themselves, but deposit such funds with Reserve Bank of India (RBI) / currency chests, which is considered as equivalent to holding cash with RBI.

A Certificate of Deposit, or CD, is a bank-issued investment instrument where a bank typically agrees to repay the principal plus interest on a fixed maturity date. CDs are typically negotiable, meaning they can be sold on the secondary market, allowing the principal and accrued interest to be redeemed before maturity.

Commercial paper, or CP, is a short-term, unsecured promissory note. It is usually issued in bearer form, meaning it is a negotiable instrument. By issuing the paper, the issuer promises to pay the bearer the face value of the paper on a fixed maturity date.

Debt instruments issued by companies which can vary in maturity from less than one year to over 20 years. These are typically issued in bearer form, meaning they are negotiable.

A standardized assessment, expressed in alphanumeric form, of the credit worthiness of an entity raising debt capital. Ratings are issued by credit ratings agencies based on their published methodology for rating the relevant instrument.

A credit risk is the risk of default on a debt that may arise from a borrower failing to make required payments. In the first resort, the risk is that of the lender and includes lost principal and interest, disruption to cash flows, and increased collection costs.

Market risk is the possibility for an investor to experience losses due to factors that affect the overall performance of the financial markets. Market risk, also called "Systematic Risk," cannot be eliminated through diversification, though it can be hedged against. The risk that a major natural disaster will cause a decline in the market as a whole is an example of market risk.

Unsystematic Risk, also known as "specific risk," "diversifiable risk" or "residual risk," is the type of uncertainty that comes with the company or industry you invest in. Unsystematic risk can be reduced through diversification.

Counterparty risk is the risk to each party of a contract that the counterparty will not live up to its contractual obligations. Counterparty risk as a risk to both parties and should be conside1red when evaluating a contract. In most financial contracts, counterparty risk is also known as "default risk".

The interest rate risk is the risk that an investment's value will change due to a change in the absolute level of interest rates. Interest rate risk affects the value of bonds more directly than stocks, and it is a major risk to all bondholders. As interest rates rise, bond prices fall and vice versa.

The risk that future coupons from a bond will not be reinvested at the prevailing interest rate when the bond was initially purchased. Reinvestment risk is more likely when interest rates are declining. Reinvestment risk affects the yield-to-maturity of a bond, which is calculated on the premise that all future coupon payments will be reinvested at the interest rate in effect when the bond was first purchased. Zero coupon bonds are the only fixed-income instruments to have no reinvestment risk, since they have no interim coupon payments.

An interest rate swap is an agreement between two parties (known as counterparties) where one stream of future interest payments is exchanged for another based on a specified principal amount. Interest rate swaps often exchange a fixed payment for a floating payment that is linked to an interest rate (most often the LIBOR in international market/ MIBOR in India). A company will typically use interest rate swaps to limit or manage exposure to fluctuations in interest rates, or to obtain a marginally lower interest rate than it would have been able to get without the swap.

Mark to market (MTM) is a measure of the fair value of accounts that can change over time, such as assets and liabilities. Mark to market aims to provide a realistic appraisal of an institution's or company's current financial situation. The net asset value (NAV) of a mutual fund is valued based on the most current market valuation.

Duration is a measure of the sensitivity of the price (the value of principal) of a fixed-income investment to a change in interest rates. Duration is expressed as a number of years/months/days. Rising interest rates mean falling bond prices, while declining interest rates mean rising bond prices.

Modified duration is a formula that expresses the measurable change in the value of a security in response to a change in interest rates. Modified duration follows the concept that interest rates and bond prices move in opposite directions. This formula is used to determine the effect that a 100-basis-point (1%) change in interest rates will have on the price of a bond.

Open Market Operations (OMO) refers to the buying and selling of government securities in the open market in order to expand or contract the amount of money in the banking system, facilitated by the respective central Bank viz. RBI in India.

"Money Market" refers to the market for short-term requirement and deployment of funds. Money market instruments are those instruments, which have a maturity period of less than one year. Treasury Bills (T-Bills) issued by RBI, Certificate of Deposits (CDs) issued by commercial banks, Commercial Papers (CPs) issued by corporate are few examples of money market instruments. The most active part of the money market is the market for overnight call and term money between banks and institutions and repo transactions. Call Money/Repo are very short-term Money Market products.

Reverse Repo rate is the short term borrowing rate at which RBI borrows money from banks. The Reserve bank uses this tool when it feels there is too much money floating in the banking system.

Every bank is required to maintain at the close of business every day, a minimum proportion of their Net Demand and Time Liabilities as liquid assets in the form of cash, gold and un-encumbered approved securities. The ratio of liquid assets to demand and time liabilities is known as Statutory Liquidity Ratio (SLR). An increase in SLR also restricts the bank’s leverage position to pump more money into the economy.

The annual rate of return from income paid out on an investment in securities or a money market fund, expressed as a percentage of the current market prices of the relevant securities.

A graphical representation of demonstrating the relationship between yield and maturity on comparable debt securities with different maturities, usually for a single issuer or a very closely related group of issuers.

A zero-coupon bond, also known as an "accrual bond," is a debt security that doesn't pay interest (a coupon) but is traded at a deep discount, rendering profit at maturity when the bond is redeemed for its full face value. It eliminates the risk of reinvesting the periodic coupons (interest) received at regular intervals.