Some Basic Financial Terms Explained

There are so many terms used in the finance industry. Far too many to include in an article, besides listing them all would not make for interesting reading. Instead you will find some basic financial terms that are more commonly used and most useful to you. These will help you in your quest to learn more about financial matters. Please note that they are not alphabetical as the terms follow from vocabulary used within the explanations

Let us start with asset, asset class and asset allocation. An asset is an item that has a value that can be measured in terms of money. It can be converted into cash such as bank deposits, shares or property. Assets are generally considered in terms of asset classes. An asset class is the group to which an asset belongs and the main groups are considered to be: cash, fixed interest, property, shares. There are other classes even within those basic groups.

When talking in terms of asset allocation this is the design of a plan to invest in various asset classes which best meet the needs and objectives of the investor as well as their tolerance to risk. It provides diversification to an investment portfolio.

Diversificationis a natural part of asset allocation. The mere fact that you use the different asset classes makes your portfolio diversified to a degree. Diversification is the spreading of your investments to ensure that you do not have a concentration of all your assets in one particular area. The concept is that each asset will act in different market cycles in a different way and will mean you are not subject to the downs of one group of investments.

Diversifying within the asset class is also important to spread your risk. Take for example investing in one share compared to investing in twenty shares. If that one company was to fail the person with shares only in that company would lose their investment whereas the diversified investor would still have shares in other companies to make sure they still have some value.

An investment portfolio is an appropriate mix or collection of investments held by an institution or an individual. It is a collection of assets specifically designed for a particular investor to ensure that goals are met allowing for the individual’s risk tolerance and time frame.

Risk tolerance is measured by the use of a risk profile tool which is a series of questions designed to establish the investor’s attitude to risk. This attitude to risk is the tolerance you are willing to accept with your investment. How would you react if your investment value dropped by a certain percentage? Getting your tolerance to risk correct is important to make sure that you can sleep at night.

The term investment has been used and you may be wondering what the difference is between saving and investing. Saving is usually for short-term goals for readily available cash such as deposits in the bank and call accounts. An investment is the purchase of assets that are not for consumption today but are for future use in an effort to create wealth. Investments are to generate income and to appreciate in value for the future.

You have heard the term shares used but may think of these in terms of stocks and wonder if there is a difference. These are used interchangeably and while the term stock refers to the ownership of any number of companies the use of the term shares refers to the ownership of a particular company. At the end of the day stocks and shares are the same thing. To add to this the term equities is sometimes used.

You may want to see a Financial Planner about starting your investment portfolio. A financial planner creates a plan providing comprehensive advice and assistance to meet your needs and life goals. The planning process normally includes six steps: data gathering, goal setting, identification of financial issues, preparation of written options and recommendations, implementation of your decision, and periodic reviews and revision of your plan.