9 Common Investment Terms Explained
There are a great deal of financial acronyms and terms that are commonly thrown around when discussing money and investments. Whether it’s APY, IRA, or IPO, for those of us not used to reading about finance it can be fairly confusing. I would hate for you to accidentally donate to the Irish Republican Army or enter the Irish Poker Open (lots of fun Ireland jokes in finance). Rather than redefine these terms in every blog post, this page exists as a catchall reference for commonly used financial words and phrases.
1. APY
APY is short for annual percentage yield. It is typically used to describe the annual interest rate on an investment. If you invest $100 with an APY of 5%, at the end of the year you would have $105 ($100 principal + $5 interest). We can also use APYs to calculate returns over various fractions of a year. The same $100 investment with a 5% APY would yield $2.50 in interest over 6 months, or $1.25 in interest over 3 months. With a little simple math we can see that half a year gave us half as much interest, just as a quarter of a year brought in a quarter as much interest.2. Certificate of Deposit
Certificates of deposit (hyperlink)are a lump sum investment offered by banks in which you agree to not touch the money invested for a fixed period of time in exchange for an agreed upon interest rate. Interest rates get higher with longer time periods. At the end of the time, you are able to withdraw your entire investment or most banks will automatically roll it over into another period.
3. Compound Interest
Hopefully this concept will sound familiar to everyone from school, but compound interest refers to adding the interest on an investment onto the original investment, compounding your interest to progressively larger amounts over time. Compound interest is the reason everyday investors are able to see exponential growth in their investments over long periods of time.
4. Dividend Yield
Dividends are payments made, typically quarterly, from companies to shareholders. A stock’s dividend yield, usually referred to as a percentage, can be calculated by adding up the last year’s worth of dividend payments and dividing by the share price of the stock. For example, as of this writing
5. Ex Dividend Date
An ex dividend date is the cutoff mark for being able to receive the current quarter’s dividend payment. If you buy a stock on or after the stock’s ex dividend date, the dividend payment for that cycle will go to the seller of the stock rather than the new owner. Conversely, if you sell shares of a stock on or after it’s ex dividend date, although you no longer own the shares you will still receive that dividend payment.
6. Index Fund
An index fund is a fund you can buy shares in whose sole purpose is to own a bunch of different shares of companies. When the value of those companies goes up, the index fund becomes more valuable. Various index funds are offered by large investment banks. I personally use Vanguard’s Total Market index fund which tracks the entire stock market. When the market as a whole rises, so do those shares.
7. IPO
IPO stands for initial public offering and is one of the ways that companies list their shares for public sale. Businesses sell shares as a way to raise money, and these shares are listed on the open market for anyone to buy or sell. It is usually not possible to buy shares of a company pre-IPO, although there are other mechanisms such as direct listings for companies to list their shares publicly.
8. Money Market Account
Sometimes called high interest savings accounts or high yield savings accounts, money market accounts are savings accounts with banks which offer much higher rates than typical savings accounts. Oftentimes, they are offered by online banks who are able to offer better rates than banks operating brick and mortar facilities. Before the pandemic began, the better money market accounts were offering close to 2% APY, but with lower interest rates nowadays, you are lucky to find one offering 1% APY.
9. Principal
Not to be confused with the person whose office you go to when you get in trouble, principal is the initial amount of an investment. This term is often used when discussing compound interest. With each interest payment, the interest is added onto the principal, growing both the principal and the interest amounts.
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