Investment Terms: A Guide to Understanding the Terms and Styles of the Investment Landscape

By Hightower Westchester on July 2, 2019

A few months ago, I rolled out a blog around investment options, and how they are defined, used, etc. This blog will build on that piece by further defining and laying out additional terms and styles of the investment landscape.

At times, understanding your investments and all the jargon that comes along with them can feel like a foreign language. Fear not, many investors struggle with comprehending their portfolios, including the different terms and styles used in the investment world. We’re here to fix that.  Below is a breakdown of the various market, investment and investor terms to help you get a better understanding of this complex universe:

Market Terms:

In a Bull Market, investors are confident and optimistic, and there is an expectation of continuously positive results. Bull Markets mark a period of growth and rising stock prices.

In a Bear Market, investors are much less confident because of falling stock prices. Bear Markets mark a period of decline. One of the most notable Bear Markets was from October 2007 to March 2009, deemed the “Great Financial Crisis.” (In the world of investments, a correction is generally defined as a decline of 10% or greater in the price of a security from its most recent peak.)

Risk/Return Terms:

Alpha is a portfolio’s excess return or abnormal rate of return. Expressed with the Greek letter α, alpha is a measurement of the investment’s performance. A negative alpha shows that the investment is underperforming the market, while a positive alpha shows that the investment is overperforming. Alpha is used in conjunction with beta.

Beta is a coefficient that shows how volatile a stock is compared to the overall market. Expressed with the Greek letter β, a beta coefficient measures the systematic risk tied to the entire market. The market portfolio is a weighted sum of every asset in the market and has a beta coefficient of 1. If a stock has a beta coefficient less than 1, the stock is either less volatile than the market or has price trends that are not highly correlated with the trends of the market. If a stock has a beta coefficient that is more than 1, the stock has a higher volatility and usually moves up and down in conjunction with the market.

Standard Deviation is a statistic that measures how far a data point is from the mean. Data closer to the mean has a smaller standard deviation, whereas data farther from the mean has a larger standard deviation.

A plot of normal distribution (or bell-shaped curve) where each band has a width of 1 standard deviation[i]

Take a look at the graph above. Note how the bell curve is separated into sections of equal width. Now, say σ represents standard deviation, so 1σ would mean that the corresponding bar is 1 standard deviation away from the mean (which is denoted as 0 on the graph). Both -1σ and 1σ are each one standard deviation from the mean on either side, so each of their sections represents 34.1% of the overall curve’s data. In finance, standard deviation helps estimate the volatility, or systematic risk, of an investment. If a stock has a higher standard deviation, the stock is more volatile and vice versa.

Market Cap Terms:

Market Capitalization, or “Market Cap,” is the total value of all the outstanding shares of a public company. You can calculate the Market Cap of a company by multiplying the current price per share by the number of outstanding shares. Outstanding shares are those owned by investors.

Large Cap stocks have the highest market cap. Businesses considered to be large cap stocks have a market cap exceeding $10 billion. These stocks tend to be household names.

Mid Cap stocks possess a medium market cap. Businesses considered to be mid cap stocks have a market cap between $2 – $10 billion.

Small Cap stocks have the fewest number of publicly traded shares compared to large or mid cap stocks. Businesses considered to be small cap stocks have a market cap of less than $2 billion.

Style Terms:

Growth Investing is based around companies that are expected to grow faster (either by revenues, cash flows, or profits) than the rest. As growth is the priority, companies reinvest earnings in themselves in order to expand, in the form of new workers, equipment, and acquisitions.

Dividends tend to be low and scarcer from growth companies. They are more inclined to reinvest cash into growth and development. These types of companies offer higher upside potential and therefore are inherently riskier. Their stock prices are high relative to their sales or profits. This is due to expectations from investors of higher sales or profits in the future, so expect high price-to-sales and price-to-earnings ratios. There’s no guarantee a company’s investments in growth will successfully lead to profit. Growth stocks experience stock price swings in greater magnitude, so they may be best suited for risk-tolerant investors with a longer time horizon.

Value Investing is about finding diamonds in the rough or companies whose stock prices don’t necessarily reflect their fundamental worth. Value investors seek businesses trading at a share price that’s considered a bargain and low relative to their sales or profits. As time goes on, the market will properly recognize the company’s value and the price will rise.

Additionally, value funds don’t emphasize growth above all, so even if the stock doesn’t appreciate, investors typically benefit from dividend payments. Value stocks have more limited upside potential and, therefore, can be safer investments than growth stocks.

Core Investing tends to encompass both growth and value. The core investment style is generally representative of the overall market and has no intentional style bias.

Top-down investment managers focus on the big picture by examining overall economic and market trends. They then look at sector and industry trends, and finally the company itself.

Bottom-up managers analyze individual companies, and not necessarily the direction of the overall economy. They look for potential within a company and buy stocks to reflect their fund’s objective. They prefer to wait for the very best price on stocks.

Investor Types:

To be considered a Qualified Purchaser, you must own at least $5 million in investments or be an individual or entity that invests at least $25 million. Entities can also act as qualified purchasers if all their owners are qualified purchasers. The same logic follows for trusts, if they are managed and sponsored by qualified purchasers.

In the United States, you are considered an Accredited Investor if you have had an income of at least $200,000 over the past two years, or $300,000 combined income as a married couple, or a net worth of at least $1 million without the value of your primary residence.

Investable Markets:

An International Developed Market is the market of a first world country, one that is high in income and efficacy. International Developed Markets include Germany, the United Kingdom, and Sweden.

An Emerging Market is one type of developing market. Emerging Markets are countries that possess qualities of developed markets, but do not meet the same standard as developed markets. China and India are currently the largest Emerging Markets.

A Frontier Market is another type of developing market. Frontier Markets are developing countries with the most illiquid capital. Their markets are much smaller and riskier, which provides less assurance for investors and corporations. Jordan, Nigeria, and Romania are considered Frontier Markets.

Other Terms:

Dividends are a distribution of profits made to shareholders by corporations. The corporation’s board of directors manage and decide the dividends, which can be distributed as shares, cash payments, or other property.

Capital Gains are an increase in a capital asset’s value, while a Capital Loss is a decrease in the value. You can only realize a capital gain or loss after an asset is sold.

Like a foreign language, the investment landscape might not be that easily understood to many new investors. It must be practiced, studied, and repeated for the speaker to be fully fluent. By starting with the basics today, you have already increased your proficiency in the investment language. Click around our other blogs to add to your investment vocabulary, and feel free to reach out to us if you have any questions or need a quick translation.

Richard Flahive – Private Wealth Advisor and Director of Research & Planning – HighTower Westchester

914.825.8639 – rflahive@hightoweradvisors.com

[i] “Standard deviation.” Wikipedia: The Free Encyclopedia. Wikipedia, The Free Encyclopedia, 4 Jun 2019. Web. 20 Jun 2019, en.wikipedia.org/w/index.php?title=Standard_deviation&oldid=900321072