The world of finance and investing can often seem confusing, cluttered and bloated with jargon. It needn’t be that way.
At Nutmeg, we like to keep things as simple as possible. Investing should be interesting, engaging and easily understood. So, we’ve put together a list of investment-related words and phrases and explained them in plain English.
If there are any terms or phrases you’d like us to add to the list, tweet us @thenutmegteam.
There are different ways to manage investments. The active management approach (which is also called active investing) means the investment manager will use their knowledge of the financial markets to pick investmentsthey believe will increase in value. This might involve selecting company shares, or stocks, hence these managers are sometimes known as “stock pickers”. Active managers tend to make changes to their investments on a regular basis.
Your money can be invested in several ways. For example, stocks and bonds, commodities like gold and silver, even property – they’re all types of investments, or investment ‘assets’ (see Asset class below). Your asset allocation refers to the mixtureof investments you hold, and the proportion of each. You might have a portfolio that’s half company shares and half government bonds. That’s your asset allocation.
The mix of assets in your portfolio depends on factors such as how much risk you’re willing to take and how long you plan to invest for.
An asset class is quite simply a type of investment, or an investment category. With so many different types of investments or ‘assets’ available, it helps to be able to sort them into groups.
The three main asset types are cash, stocksand bonds, but there are many others.
A bear market is a general decline in the stock market over time. Investors tend to define it as when the value of the market falls by 20% over the course of at least two months.
A lack of confidence sees people selling shares, pushing stock prices down and creating something of a vicious circle. Bear markets have occurred during the Wall Street Crash, the global financial crisis and, more recently, the coronavirus outbreak.
The bid-offer spread is the difference between the bid price for an asset and the offer price for that asset. The bid is the price at which you can sell the investment, the offer is the price at which others can buy it. The difference is what’s known as ‘the spread’. Why are they not the same? Because this is how the market maker, the organisation selling those shares to you and buying them from you, makes their money.
It’s like the buy and sell prices you may see at a foreign exchange counter when you get your holiday money. Say you’re buying £1,000 in euros. When you buy it, you’ll pay the offer price, let’s assume it’s €1.30 – giving you 1,300 euros in total. If your holiday was then suddenly cancelled and you had to switch your euros back to pounds, you’d switch it at the bid price. As the bid price is usually lower than the offer price, it’s unlikely you’d get your initial £1,000 in full at the exchange kiosk.
If a share’s bid price stands at 99p, and the offer price is 101p, the bid-offer spread would be 2p. Buying shares with a low bid-offer spread is important when investing as it reduces the value you can potentially lose when trading your investments.
This is one of the reasons we favour using exchange-traded funds (ETFs) – they generally have a low bid-offer spread, and they can be traded easily and quickly at high volume.
Bonds are a broad spectrum of investments under many different categories, but certainly the two most common are corporate bonds and government bonds. Corporate bonds are issued by companies, government bonds are issued by governments.
Companies often need to raise money to pay for things such as new factories and machinery. One way of doing this is to issue bonds. In exchange for handing over money for an agreed number of years, investors expect to receive their money back plus interest.
Governments do the same thing. Bonds issued by the UK government are also called gilts. Bonds issued by the US government are also called treasuries.
The guarantees offered with corporate and government bonds are different. For example, if a company goes out of business, its corporate bond holder can only be paid out from the assets that remain, which may not be enough to cover their initial investment.
When investors feel particularly confident about the economy and expect companies to perform well, share prices will often rise. A bull market refers to a period of extended stock market growth and the overall feeling of optimism. Investors commonly say there is a bull market when the value of the stock market rises by 20% or more without a significant decline.
Capital gains tax (CGT)
In general, people buy shares with the aim of selling them for more than they paid. If you manage this successfully and make a profit, you experience a ‘capital gain’, something you may need to pay tax on. This tax is known as capital gains tax (CGT).
Whether you’ll need to pay CGT on your investment gains will depend on how much money you make. It also depends on the tax efficiency of your chosen investment. For example, you don’t pay CGT on ISAs, personal equity plans, UK government gilts and premium bonds.
Wheat, livestock, oil, gold and sugar are all types of commodities. They are raw materials used to create a range of consumer products. Commodity investors study the market for these products with the aim of predicting how prices will change in the future. Historically, the price of commodities has been very volatile, responding quickly to changes in the political and economic environment.
In investing, compounding is all about earning interest on your interest (or returns on your returns), rather than just on the original money you invested. The power of compounding can have a huge effect on your investment returns. If you don’t make withdrawals and let your returns mount up over time, the knock-on effect can be substantial. As always, investment returns are not guaranteed, as the value of your portfolio can go down as well as up
We explained how compounding can accelerate your investment returns in a recent video.
Corporate bonds are used by businesses to raise money. The investor hands over a lump sum for an agreed period and in return receives a fixed rate of interest. The original investment should then be paid back, but if the company goes out of business, the investor could potentially lose out. (See Bonds)
Although there is no universal definition, when a stock index falls by between 10-20%, it’s often said the market has fallen into a correction. These periods can be brief or sustained, but it’s so-named because, historically, the fall often “corrects” and returns prices to their longer-term trend.
A derivative is a type of financial contract. The contract relates to a particular investment – it could be related to the price of a company’s shares, for example. You can also have derivatives that are tied to bonds, commodities, interest rates and currencies.
Maintaining a diverse portfolio of investments helps to manage risk and reduces the impact of prices dropping in any one area of your portfolio. It also means you can benefit from investment gains across many different investments.
Diversification can be across investment types – such as bonds, stocks and commodities – but you can also diversify across different industry sectors, currencies and countries.
Diversification means spreading your risk; in other words, not putting all your eggs in one basket.
Dividend payments are often made by companies to their shareholders once or twice a year. These payments are the shareholder’s ‘share’ of the company’s annual profits. The amount you’ll receive depends on how many shares you hold. People typically buy shares in companies for two reasons: to hope to make a return by selling them at a higher price in the future, and to receive a regular dividend.
Emerging markets are developing nations, whose economies are deemed by investors to not yet be fully developed, but where strong economic growth is predicted for the future. The most well-known emerging market economies are the BRIC countries (Brazil, Russia, India and China).
Investors monitor emerging markets closely because companies in these nations can increase in share price very quickly,should there be good economic growth in the region or increased global trade. However, they can also experience large decreases in share price too, which is why emerging markets are often see as quite volatile (see Volatility) and best suited to high-risk investment strategies.
‘Equity’ is quite simply another name for company shares (or stocks). Equities are popular with investors who are looking to make more money than they could through savings accounts or bonds, provided they’re prepared to accept more risk as a result.
Exchange-traded funds (ETFs)
Exchange-traded funds (ETFs) contain many individual investments and can span many different asset classes. They could, for example, contain shares in hundreds of Japanese companies, or be linked to the S&P 500, an index of 500 large, listed businesses in the US.
The aim of an ETF is to reflect the performance of a whole section of the stock market. That way your money isn’t dependent on the potentialfortunesof just one company or investment type. They are a good way of spreading your money across a high number of investments, and so spreading risk.
ETFs can be bought and sold just like individual shares, making them highly accessible to small investors. At Nutmeg, we favour using ETFs to build our customers’ portfolios because they are cost-effective to trade and we can trade them quickly and easily at high volume. These cost savings can be passed on to you, allowing you to keep more of any returns you receive.
See our ETF guide.
Discretionary fund management
This is a form of investment management in which decisions to buy or sell are taken by a portfolio manager – within agreed limits. Managers typically charge a fee that is a percentage of the assets under management. In exchange, they put their investment expertise to good use.
FTSE, FTSE 100
FTSE, usually pronounced “footsie”, stands for Financial Times Stock Exchange. The FTSE 100 is a list, or index, of the biggest 100 companies trading on the London Stock Exchange. There are other indices such as the FTSE 250 and FTSE All-Share index, which are used to chart the fluctuations in company share prices over time.
A fund, pools money from many people and puts it into different types of investments. This can be a more cost-effective way to get your money into these investments because, to do it all on your own, you may have to pay trading, admin and set-up fees each time.
There are many types of funds and they may be managed actively or passively. (See Active investing, Passive investing)
Every investment fund has a particular objective, which could be steady growth or, alternatively, high risk for potentially larger rewards. The fund manager is there to oversee and make new investments, with the aim of generating profit for the investors, while also sticking to the objectives of that fund.
Gilts is another name for bonds issued by the UK government (see Government bonds).
Regarded as one of the safest types of long-term investment, government bonds are popular with financial organisations and private investors who want minimum risk, but a good fixed rate of annual interest. In effect, you provide a lump sum of money to help the government raise cash. The original money invested is returned after an agreed period when the bond is said to have ‘matured’, along with the pre-agreed interest. Generally regarded as low risk, government bonds are not risk-free investments, as governments have occasionally been known to default on their debts.
An index is a list of investments that have been grouped together for tracking and analysis. An investment fund can be designed to mirror the investments in a particular index, either perfectly or partly. These funds are called tracker funds or index funds.
Investors use indices to get a bigger picture of economic growth and measure business trends. Investing in an index is popular because it means your money is invested in a number of investmentsrather than being reliant on the fortunes of just one or two, which can be a high-risk strategy. Popular indices include the FTSE 100 in the UK, the S&P 500 and Dow Jones in the US, and the Dax in Germany.
The rate of inflation is the level at which prices for goods and services increase over time. It’s particularly important for savers and investors as inflation can impact interest rates on savings, along with the performance of companies and, therefore, share prices.
ISA, stocks and shares ISA, cash ISA
Individual savings accounts, commonly known by the acronym ISA, have been available in various forms since 1999 and offer a tax-free or tax-efficient way to save money.The more commonly known ISAs are four typescash ISAs; stocks and shares ISAs; innovative finance ISAs; and Lifetime ISAs. There are also Junior ISAs for children.
Nutmeg offers stocks and shares ISAs, Lifetime ISAs and Junior ISAs. Download our ISA guide to find out more.
OEIC, open-ended investment company
Open-ended investment companies (OEICs) are a popular way for lots of people to pool their money and invest in the stock market. They are a type of shared investment. By coming together with hundreds or thousands of others in a fund, small investors can get access to a much greater range of investment opportunities.
A passive investment strategy tracks the performance of an index, such as the FTSE 100, or pool of investments. The idea is to spread risk and create a portfolio that mirrors the performance of an overall stock market or index, usually over a long period of time.
Pensions are schemes that enable you to invest money for later in life. The idea is to build up a pot that will help to fund your desired lifestyle once you reach the retirement age.Contributing to a pension pot affords you a number of benefits and is often a tax-efficient way to invest because of tax relief on pension contributions.
There are three main types of pensions: workplace pensions, where both you and your employer usually pay in a fixed monthly amount; personal or private pensions, where you pay in lump sums or monthly contributions as you see fit but there is no link to your employment status; and state pensions, which you contribute to in the form of regular national insurance contributions.
There are two main ways pensions can be structured. A defined contribution pension is one in which the size of the pot depends on what you have contributed. This is the kind of pension Nutmeg offers. A defined benefit pension offers an income based on your final salary, years of service, or some other variable. It is becoming rare to find defined benefit schemes that are open to new entrants.
A financial portfolio is a collection of investments and can include anything from cash in the bank to company shares. Portfolios are either held by investors or managed by a financial institution such as Nutmeg.
How your own personal financial portfolio is made up will affect everything from the amount of risk you face to the amount of money you might make or lose.
Rebalancing is what you do to your portfolio to help keep it in line with your initial investment goals and the level of investment risk you’re comfortable with.
The best way to understand rebalancing is to look at an example: Imagine you start a portfolio with half of your money invested in shares and half in bonds to match your tolerance for risk. Over time, certain investments will perform well and others less so. Let’s say that your shares go up in value by 10% and your bonds fall in value by 5%. Overall, you’re in profit, which is great. But your portfolio has become imbalanced and no longer matches your desired risk level because you’re now overweight in shares – it doesn’t have the same 50/50 value of stocks and bonds as it did at the start.
To get it back to its starting position, you need to sell some of your stocks and buy more bonds. This is where many investors struggle to stick to a disciplined approach because it is against their nature to sell the investments that have been doing so well for them and buy more of the ones that haven’t.
Nutmeg’s fixed allocation portfolios are rebalanced automatically.
The term securities once referred to paper certificates sent out to investors as proof of an investment. Today, it is used more broadly as a way of describing the most common types of investments – from stocks and shares to commodities like oil and gold, and bonds.
An organisation that sells a security is known as the issuer. In the UK, the London Stock Exchange is the main domestic securities market.
Short selling, or shorting, is an investment strategy that speculates on a decline in the price of an investment. For example, an investor borrows shares they believe will fall in value by a predicted date. The investor then sells the borrowed shares at market price in the hope they can buy back later at a lower price and return to the lender before pocketing the difference. Think “buy low, sell high,” only in the reverse order.
Short selling is considered an extremely risky strategy and is something we never do at Nutmeg.
These two terms are often used interchangeably. Strictly speaking, a stock is a share in a company. Investors generally aim to buy them at one price and sell once the value has increased. Stockholders or shareholders usually receive dividends once or twice a year, which are paid from the company’s profits.
Rather than show the difference between what you’ve put in and what you have at the end, as simple returns would, time-weighted returns take into account deposits and withdrawals in that period to give a less misleading picture of how a portfolio has performed.
This method essentially breaks up the lifetime of your investment into shorter periods of time, then calculates the simple return for each period before putting them all together, thus smoothing out the distorting effect of contributions and withdrawals.
Tracker fund (index fund)
Tracker funds are designed to match, or track, the performance of an index. They can be set up to track indices either perfectly, by tracking every investment in an index, or partly, to track just part of an index with other investments also included. (See Passive investing)
A trading halt is when trading is temporarily stoppedon a security or even on an exchange, either in anticipation of news – positive or negative – that will affect a stock’s price or to discourage excessive volatility.
The mechanism to halt trading on a stock exchange is sometimes called a circuit breaker or curb. These measures, which suspend trading for as little as 15 minutes, or as long as a day, are triggered by sharp, steep selloffs, and give pepped-up investors time to digest the situation and keep a lid on rising panic.
A unit trust is a type of investment fund that contains many individual investments. While private investors can buy shares in companies on their own, funds such as unit trusts allow many people to come together to invest in stock markets around the world. Thanks to the number of people involved, they allow investors to spread risk and access a wide range of investments. The trust is split into ‘units’, hence the name, with different prices, and these are either created or cancelled as investors enter or leave the fund.
The volatility of a stock relates to how much its price rises and falls. Shares regarded as highly volatile are likely to fluctuate in price over a short period of time, while the value of a low-volatility investment is more stable. Investors prepared to risk investing in stocks with high volatility could potentially enjoy larger returns, whereas a stock with low volatility will usually offer slower growth but less risk.
One of the most important lessons about investing is that prices can go down as well as up, though history suggests that over the long term they go up.
A wrapper is another word for a financial product. A wrapper is a way of consolidating a number of different investments so that they can receive a particular tax treatment – such as ISAs and pensions – or simply be administered and managed together. Depending on your investment goals, different wrappers could be suitable for you.
Yield is a way of measuring how well an investment is performing and how it is expected to perform in the future.Yield is slightly different to returns in that the latter encompass back-looking criteria, such as interest, dividends and capital, whereas the former is forward-looking. Any yield encompasses the income an investment earns, including dividends and interest, putting capital gains aside.
In the case of cash in a savings account, yield refers to the annual interest you might get from your bank. In the case of shares, the yield would be calculated by adding up the value of any dividends paid out during the year and expressing that figure as a percentage of the cost of buying the shares in the first place.
For example, if you invested £3,000 in shares and received an annual dividend of £140, the yield would be 4.7% (£140 ÷ £3,000 × 100).
If you have any terms or phrases you’d like us to add to the list, tweet us @thenutmegteam.
As with all investing, your capital is at risk. The value of your portfolio with Nutmeg can go down as well as up and you may get back less than you invest. Past or future performance indicators are not a reliable indicator of future performance. ISA and pension rules apply. Tax treatment depends on your individual circumstances and may be subject to change in the future.