Fortunately, we have the 10 finance terms every newbie should know to get you started! Here they are:
1. Asset Allocation
Asset is something of value that can be converted to cash. Asset allocation is the spreading of money across these different asset classes or investment types. It is important to know the amount invested into each class and this depends on your goals, timeline, risk appetite. Asset allocation assists with stabilizing both risk and reward any time you invest. Each asset class responds uniquely to market conditions and the economy. The 3 major asset classes are:
A. Cash
When it comes to investing, cash extends to more than the physical paper money and coins. It also includes the money in your current account, savings account, fixed deposit accounts, and anything that can be converted into cash swiftly.
B. Stocks
Stocks are shares which are small pieces of a company bought in both public and private corporations. When the company is profitable, the buyer of these shares (shareholders) are rewarded by dividends declared by the company. Value of the stocks of profitable companies can increase, thus making your investment profitable. However, stocks are subject to market risk.
C. Bonds
Bonds are issued by large companies or the government who are in need to borrow money. Individuals can invest in these bonds for which they gain an interest. Bonds also have a maturity date on which bond issuers pay-back money to the investors. These bonds have credit ratings (AAA, BBB) which serves as a guide for investors for investing in these bonds.
2. Stock Markets
A market is a place where people buy and sell goods or services. In stock markets, shares of public companies are traded. You often hear “Bear and Bull markets” when discussing the stock market. The difference between the two lies in the characteristics of the animals. In Bear markets, the economy is not doing well and investors sell stocks (shares) expecting stock prices to go down. Whereas in Bullish markets, the economy is doing well and investors are optimistic about share prices and buy more stocks, expecting prices to increase in the future. As a result, more money gets invested in stock markets.
3. Capital Gains and Losses
Capital gains occur when an investment selling price exceeds its purchase price. On the flipside, if the investment is sold for less than the original price it is a capital loss. These gains are non-taxable in Singapore.
4. Credit Report and Score
Credit report is a summary of your debt history such as credit cards, mortgages, car loans, debt payment history, and account balances. The Credit Bureau Singapore (CBS) collects all this information and shares it with companies and creditors. Credit score is based on repayment history of credit card debt and other debts. This rates your “creditworthiness”. When you approach a bank for a new mortgage or loan, your credit score matters.
5. The 5 C’s of credit are used by lenders to determine your ability to gain credit (creditworthiness)
Before arriving at a decision they look at these five characteristics:
Capital: It is your income and other sources of revenue. In the lenders eyes, the more capital you have the greater the ability to repay loans.
Capacity: Is your ability to repay a loan in a timely manner and lenders need to see that you have enough cash to do so. They need to ensure you are able to afford the loan in the first place.
Character: Refers to your reputation and trustworthiness. It is also known as “credit history” which is based on your credit report and score. It translates your ability to pay back debt in a timely manner.
Conditions: Refer to the terms of the loan and the conditions of the economy. Conditions like interest rate play a big role in determining if you can afford the loan. The economy decides if you will succeed in repaying the loan.
Collateral: Is any asset you are willing to pledge against your ability to repay the loan. If you fail to repay the loan on time, lenders have the right to seize the collateral offered to compensate for their losses.
6. Equity Mutual funds (stock funds)
Funds that invest primarily in equity shares of a company. Equity shares are a main source of finance for firms and are issued to be bought by the public. This allows investors to buy a basket of shares more easily than purchasing individual securities.
It is the ideal “investment vehicle” for investors that lack experience in investing or do not own large amounts of capital. They also give good returns over extended periods of time, but losses can be high when invested on short-term basis in a volatile market. Equity fund provides ‘diversification’ (wide array of investments to reduce risks) which reduces risk for investors.
7. Debt Funds
Funds that invest primarily in fixed income securities such as bonds and treasury bills. Debts are much safer as compared to equity funds and mainly invest in risk-free government and corporate bonds. They are a good investment option when the market is volatile. When prices of stock fall in bear market, bond prices rise. Hence, integrating stock and debt funds reduces fluctuations in the portfolio.
Hedge funds are like the “biker gangs” of the investment world.
8. Hedge Funds
Hedge funds are like the “biker gangs” of the investment world.
Hedge fund is a private investment fund that markets itself almost exclusively to wealthy investors. They are seen as risk-seeking investment funds and hence only accredited or sophisticated investors can invest in these funds. They are often unregulated and have a lot more freedom than other funds. They can buy whatever they like, not just stocks and bonds.
9. Net Present Value
Net present value determines current value of all future cash flows, both positive and negative over the entire life of an investment discounted to the present. It is used to determine the worth of an investment or a series of cash flows. Additionally, it takes into account the timing of each cash flow which can have a huge impact on the present value of any investment. It is better to have cash inflows sooner, and for outflows to be later.
10. Amortization
Amortization is a way to pay-back a loan. It is a spread-out method for paying off both the principal of the mortgage loan and the interest in one fixed monthly payment. Initially, a greater portion of the payment is applied to the interest as compared to principal. Overtime, the inverse occurs. The advantage of amortization is its consistency; the exact same amount is paid every month over the term of the loan.
Investing is not scary with the right foundation knowledge on the terms used. For more terms, check out our very own #TuesdayTips on Facebook, Instagram, and LinkedIn as we define a new term each week.
