Knowing common investing terms can help you make smarter decisions and better understand the market. Learning terms like ask/bid, bull market, capital gains, and others can help to better day-to-day trading conversations.
Investing in the stock market can be overwhelming, especially with so many different terms out there. Learning the language of investing can help you make well-informed decisions and make a plan to reach your financial goals.
Ask/Bid
Shorthand for the price you can buy and sell stocks at. The ask is the higher of the two prices. Conversely, the bid is the lower amount a buyer is willing to pay for the asset listed by the seller.
The difference between the ask (selling) and bid (buying) prices of an asset is called the spread.
Asset allocation
The process of dividing your portfolio among different types of investments, such as stocks, bonds, cash, and other assets. Asset allocation is important to diversify risk and maximize returns.
Bear market
A market characterized by falling stock prices, typically highlighted by a 20% decline or more over a period of time. Bear markets generally indicate investors are pessimistic about the market and are selling off stocks in anticipation of further losses.
A bear market is usually caused by macroeconomic factors like inflation, government policies, interest rates, market regulations, etc.
Bull market
The opposite of a bear market. A bull market is one characterized by rising stock prices and increased investor confidence. Bull markets are generally seen as a sign of economic growth and stability.
Capital gains
The amount of money an investor makes when they sell a stock for more than its original purchase price. Capital gains are taxed as income, either at the short-term or long-term capital gains rate, depending on how long the stock was held.
Capital markets
A financial marketplace where investors buy and sell stocks, bonds, and other securities. Capital markets help firms expand and raise funds and offer investors the chance to grow their wealth.
Capital markets are typically divided into two segments: primary markets, which allow companies to raise funds by issuing new stock, and secondary markets, which facilitate the buying and selling of already-issued securities.
Compounding interest
The process of earning interest on both the principal amount (or the initial capital you invested) and any accumulated interest from previous periods. Compounding is a powerful growth tool, as it allows investors to potentially earn more money in the long run by rolling over their returns from time to time.
Diversification
An investing strategy that involves spreading risk across different asset classes in order to reduce overall exposure to market volatility and instability. Diversifying reduces the impact of individual stock or sector performance on the overall performance of your portfolio.
A common diversification approach is investing in ETFs (exchange-traded funds) instead of individual stocks.
Dividend
A part of a company’s profit that it pays out to its shareholders. Dividends are usually paid out in cash, but may also be distributed in the form of stock or other property. Payments are typically made quarterly and come with tax advantages.
Exchange-traded funds
A type of investment that is traded on a stock exchange, similar to an individual stock. Exchange-traded funds are designed to track the performance of a particular market index or sector, offering investors the chance to diversify their portfolios without having to buy multiple stocks.
IPO
An Initial Public Offering (IPO) involves a private company offering its shares for sale to the public for the first time on a stock exchange. An IPO can provide investors with an opportunity to own a piece of a company but comes with some risk since there is no track record of the company’s performance.
Leveraging
When an investor borrows money to invest with the expectation that the return on the investment will be greater than the cost (and interest) of borrowing, they’ve used leverage.
Leveraging can potentially amplify gains, but also increases risk, as investors are responsible for repaying the loan even if their investments do not perform as expected.
Long / Short
Taking a long position means buying a stock at a low price with the hope the stock’s value will appreciate. Taking a short position involves selling a stock at a high price with the expectation the price will decline and you can purchase it back at a lower price.
Taking a long or short position can also be done through derivatives such as options or futures contracts. However, this trading strategy is better suited to experienced traders and investors.
Market capitalization
The total value of all a company’s outstanding shares. It’s calculated by multiplying the stock’s price per share (PPS) by the number of shares outstanding. Market capitalization can be used to measure how large a company is.
Mutual funds
A pooled investment fund, managed by professionals, which allows investors to purchase shares in the fund and benefit from the diversification of its investments.
Mutual funds invest in a wide variety of securities such as stocks, bonds, and money market instruments, and investors’ returns are determined by the accumulated gains from the fund and investors’ share of ownership.
Options
A type of contract that gives holders the right to buy or sell a certain asset at a predetermined price on or before a set date. Options can be used as a hedging tool to protect against losses in volatile markets or as part of a speculative strategy.
Price-to-earnings ratio
A measurement is used to value a company and identify if they are overvalued and undervalued. The P/E ratio is calculated by dividing the current price of a stock by its earnings per share. It can also be used to compare different stocks or sectors to determine the most profitable options.
Risk and Return
The relationship between the level of risk taken on by an investor and the potential return expected from their investments. Generally, the higher the risk, the higher the potential return. Conversely, lower levels of risk are associated with lower returns.
Risk Tolerance
An investor’s willingness to take on risk in order to reach potential returns. Risk tolerance ranges from conservative to aggressive, and can help determine a trader’s psychology of investing.
Stock
A type of security that represents ownership in a company. Stockholders are entitled to voting rights, potential dividends, and capital gains resulting from increases in the stock’s value.
Stock Split
Stock splits occur when a company increases the number of its shares outstanding without changing its market capitalization. For example, if company $TSTR has 1 million shares at $100 and does a 2:1 split, then the company now has 2 million shares, each $50.
A stock split is used to reduce the share price so that it is more affordable to individual investors and easier to trade on the market.
Volatility
A measure of how much the price of a security fluctuates over time. High levels of volatility indicate that securities are more risky and may be prone to significant fluctuations in value. Low levels of volatility indicate that a security is less risky and more stable in price.
Final thoughts
Understanding important investment terms can offer a greater understanding of short-hand investment discourse. Both beginner and advanced investors should consider implementing these terms into their trading conversations and practice explaining key investment concepts to solidify trading knowledge.
Visit the eToro Academy to learn intermediate and advanced investment terms.
FAQs
- What is the difference between bearish and bullish markets?
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A bearish market refers to a market where prices fall and investor sentiment is pessimistic. On the other hand, a bullish market indicates that investor sentiment is positive and prices are rising.
- What makes a stock different from a share?
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Stocks and shares are often used interchangeably in beginner investment discourse, however these are separate concepts. A stock is a financial instrument that represents part ownership of a company, for example, an Amazon or Apple stock. A share is a single unit of a stock.
- How do you calculate risk-return ratios?
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Risk-return is an essential calculation for all investors to understand. The formula is as follows, where CRV means risk/reward ratio: CRV = Take Profit / Stop Loss
This information is for educational purposes only and should not be taken as investment advice, personal recommendation, or an offer of, or solicitation to, buy or sell any financial instruments.
This material has been prepared without regard to any particular investment objectives or financial situation and has not been prepared in accordance with the legal and regulatory requirements to promote independent research. Not all of the financial instruments and services referred to are offered by eToro and any references to past performance of a financial instrument, index, or a packaged investment product are not, and should not be taken as, a reliable indicator of future results.
eToro makes no representation and assumes no liability as to the accuracy or completeness of the content of this guide. Make sure you understand the risks involved in trading before committing any capital. Never risk more than you are prepared to lose.