Glossary of Terms

Investment Terms

• Accrued Interest

  The amount of interest due the seller, from the buyer, upon settlement of a bond trade. Also:Prorated interest due since the last interest payment date.

• Amortization

  The reduction of the value of an asset shown by prorating its cost over a period of years.

• Agency Securities

  Low-risk debt obligations that are issued by U.S. government-sponsored entities (GSEs) and other federally related bodies. Agency securities are issued by GSEs, including the Federal National Mortgage Association (FNMA), the Federal Home Loan Bank (FHLB) and the Federal Agricultural Mortgage Corporation (Farmer Mac). These entities were created to reduce the costs associated with borrowing for certain areas of the economy, including homeowners, students and farmers.

• Agent

  The role of a broker-dealer firm when it acts as an intermediary between two customers.

• Asset-Backed Security

  A financial security backed by a loan, lease or receivables against assets other than real estate and mortgage-backed securities. For investors, asset-backed securities are an alternative to investing in corporate debt.

• Asset Allocation

  An investment strategy that aims to balance risk and reward by apportioning a portfolio's assets according to an individual's goals, risk tolerance, and investment horizon.

• Balance Sheet

  A condensed statement showing the nature and amount of a company's assets, liabilities, and capital on a given date.

• Banker Acceptance Notes

  A short-term debt instrument issued by a firm that is guaranteed by a commercial bank. Banker's acceptances are issued by firms as part of a commercial transaction.

• Basis Point

  One-hundredth of one percent. For example, a Treasury bill yielding 7.17 percent that changes in price to a yield of 7.10 percent is said to have declined seven basis points.

• Bonds

  A debt investment in which an investor loans money to an entity for a defined period at a fixed interest rate. Bonds are used by companies and local, state, U.S. and foreign governments to finance a variety of projects and activities.

• Book Value

  Book value is calculated as investment cost less accumulated depreciation.

• Call Protection

  A term used to describe a bond without a call feature or a bond with a call feature that cannot be activated for a set period of time.

• Call Provision

  A provision on a bond or other fixed-income instrument that allows the original user to repurchase and retire the bonds. If a call provision is in place, it typically will come with a time within which the bond can be called. A specified price as well as any accrued interest is paid to the bondholder at the time of the call.

• Capital Gain (Loss)

  The difference between an asset's purchase price and selling price including any transaction costs. This can also be stated as the profit (or loss) resulting from the sale of a security.

• Capital Markets

  The markets in which corporate securities (equity and debt) are traded, as opposed to money markets in which short-term debt instruments are traded.

• Cash Flow

  Reported net income plus amounts charged off for depreciation, depletion, amortization, and other non-cash expenses.

• Certificate of Deposit (CD)

  A negotiable money market instrument issued by commercial banks against money deposited with them for a specified period. CDs vary in size according to the amount of the deposit and the maturity period, and they may be redeemed before maturity only by sale in a secondary market.

• Collateralized Mortgage Obligations (CMOs)

  A type of mortgage-backed security in which principal repayments are organized according to their maturities and into different classes (tranches) based on risk and cash flow.

• Corporate Bonds

  A debt investment in which an investor loans money to an entity for a defined period at a fixed interest rate. Bonds are used by companies to finance a variety of projects and activities.

• Cost of Funds

  The annualized ratio of dividend and interest expense divided by the average balance of total assets.

• Coupon

  The percentage of interest to be paid on a bond in the course of a year. The interest is usually payable semi-annually, though it can also be payable monthly, quarterly, and annually.     

• Credit Risk

  The degree of probability that a borrower will default or not repay the principal loan balance. Credit risk is closely tied to the potential return of an investment. In other words, yields on bonds correlate strongly to their perceived credit risk.

• Current Yield

  The annual dollar amount of interest paid by a bond divided by its market price. Current yield represents the return an investor would expect if he or she purchased the bond and held it for a year.

• Discount

  A term used to describe debt instruments trading at a price below the par value. The discount equals the difference between the price paid for the security and the security's par value.

• Diversification

  Investing in a variety of investments to reduce risk.

• Duration

  A measure of the sensitivity of the price (the value of principal) of a fixed-income investment to a change in interest rates. Duration is expressed as a number of years. Rising interest rates mean falling bond prices, while declining interest rates mean rising bond prices.

• Effective Duration

  A duration calculation for bonds with embedded options. Effective duration takes into account that expected cash flows will fluctuate as interest rates change. The greater the effective duration, the greater the risk.

• Embedded Option

  An asset or liability characteristic (such as coupon rate, coupon-rate formula, final maturity, or weighted-average life) that can change during the term of the asset or liability. Embedded options include call features, coupon-rate caps/floors, and prepayment features.

• Face Value (Face)

  The redemption value of a bond unless that value is otherwise specified by the issuer. Also referred to as par value.

• Fair Value

  The price at which an investment could be either bought or sold in a normal arms-length transaction.

• Federal-Funds Rate (Fed Funds)

  The interest rate at which a depository institution lends immediately available funds (balances at the Federal Reserve) to another depository institution overnight. The Federal Open Market Committee sets a target for this rate, but the actual rate itself is determined by the open market.

• Fiduciary

  A person or institution to which property is entrusted for the benefit of another.

• Financial Industry Regulatory Authority (FINRA)

  An association of broker-dealers in over-the-counter (OTC) securities organized on a non-profit, non-stock-issuing basis. Its general aim is to protect investors in the OTC market. OTC securities are not traded on an exchange. See FINRA

• Gap

  A measure of the mismatch between the amount of assets and the amount of liabilities that re-price or mature within a defined time.

• Gap to Total Assets Ratio

  The ratio of interest earning assets that re-price or mature within the next six months minus interest-bearing funds that re-price or mature within the next six months divided by total assets.

• Implied Equity Duration

  The average change in a credit union's fair value (expressed as a percentage of equity capital) per 100 basis point shift in market interest rates over a specific range of rate changes (e.g., +/-300 basis points).

• Income Simulation

  The projection of net interest income and net income under various interest rate scenarios to determine the impact on earnings and capital.

• Interest

  Regular payments constituting a charge for borrowing money — the "cost" of money.

• Interest Income

  Income from earning assets (loans and investments).

• Interest Rate Risk

  The risk that changes in market rates will adversely affect a credit union's earnings and capital.

• Liquidity

  The degree to which an asset or security can be bought or sold in the market without affecting the asset's price.

• Liquidity Risk

  The risk stemming from the lack of marketability of an investment that cannot be bought or sold quickly enough to prevent or minimize a loss.

• Market Value

  The price at which a security is trading and could be purchased or sold.

• Maturity Date

  The date on which a loan, bond, or debenture comes due; both principal and any accrued interest due must be paid.

• Maturity Value

  The amount an investor receives when a security is redeemed at maturity, not including any periodic interest payments. This value usually equals the par value, although on zero coupon, compound interest and multiplier bonds, the principal amount of the security at issuance plus the accumulated investment return on the security is included.

• Mortgage-Backed Security (MBS)

  Type of asset-backed security that is secured by a mortgage or collection of mortgages.

• Municipal Bonds

  A debt investment in which an investor loans money to a state or municipal government for a defined period at a fixed interest rate. Municipal bonds are used by local, state, U.S. and foreign governments to finance a variety of projects and activities.

• Net Economic Value (NEV)

  The fair value of assets minus the fair value of liabilities.

• Net Income

  Income after deducting all expenses from all revenues. Also called net earnings.

• Net Interest Income

  The interest from loans and investments minus interest and dividend expenses.

• New Issue

  A newly issued bond will be considered a primary market trade when the bonds are first purchased by investors directly from the underwriting investment bank. After that, any bonds traded will be on the secondary market, between investors. In the primary market, prices are often set beforehand, whereas in the secondary market, only basic forces like supply and demand determine the price of the security.

• Option Adjusted Spread (OAS)

  This is a measurement tool for evaluating price differences between similar products with different embedded options. For example, a comparison may be made between a bond with a different call structure and a bond without any call. A larger OAS implies a great return for greater risks.

• Option-Free Investment

  A bond that has no call features.

• Par Value

  The redemption value of a bond unless that value is otherwise specified by the issuer. Bonds generally have a par value of $1,000. Also referred to as face value.

• Portfolio

  Holdings of securities by an individual or institution.

• Premium

  If a bond's price is higher than its par value, it is selling at a premium. This occurs because the interest rate of the bond is higher than the prevailing rates in the market, making the premium bond worth more than a bond paying a lower rate. For example, if a bond with a five percent coupon is selling at par (i.e. $1,000), it would be worth less than the bond paying seven percent. Therefore, the bond paying seven percent would have to be priced higher than par to equalize the attractiveness of the two bonds.

• Present Value

  The current worth of a future sum of money or stream of cash flows given a specified rate of return.

• Prime Rate

  The interest rate charged by a bank on loans made to its most creditworthy customers.

• Principal

  The role of a broker-dealer firm when it buys and sells for its own account. In a typical transaction, it buys from a market maker and sells to a customer at a fair and reasonable markup. If it buys from a customer and sells to the market maker at a higher price, the trade is called a markdown.

• Principal Balance

  The amount of a debt investment minus the interest. For a mortgage-backed security, it is the amortized value of the security multiplied by the price of the trade.

• Prospectus

  A document that contains material information for an impending offer of securities (containing most of the information included in the registration statement) and that is used for solicitation purposes by the issuer and underwriters.

• Real Estate Mortgage Investment Conduits (REMICs)

  An investment vehicle consisting of a fixed pool of mortgages broken apart and marketed to investors as individual securities.

• Safekeeping

  Financial institutions are required to have an outside specialist maintain securities. The safekeeping process involves an agent validating receipt and payment of the securities, interest received, and credit made from investor's account.

• Secondary Market

  A newly issued bond will be considered a primary market trade when the bonds are first purchased by investors directly from the underwriting investment bank. After that, any bonds traded will be on the secondary market, between investors. In the primary market, prices are often set beforehand, whereas in the secondary market only basic forces like supply and demand determine the price of the security.

• Securities and Exchange Commission (SEC)

  A government agency responsible for the supervision and regulation of the securities industry. See SEC

• Securities Investor Protection Corporation (SIPC)

  Formed by the Securities Investors Protection Act of 1970, a government-sponsored, private, nonprofit corporation that guarantees repayment of money and securities to customers in amounts up to $500,000 per customer in the event of a broker-dealer bankruptcy. SIPC covers up to a maximum of $500,000, of which only $100,000 may be cash. See SIPC

• Security

  A transferable instrument providing evidence of ownership or creditorship, such as a note, stock or bond, evidence of debt, interest or participation in a profit-sharing agreement, investment contract, voting trust certificate, fractional undivided interest in oil, gas, or other mineral rights, or any warrant to subscribe to, or purchase, any of the foregoing or other similar instruments.

• Settlement (Delivery) Date

  The day on which certificates or payments involved in a transaction are due to the seller and purchaser.

• Security Ratings

  Ratings set by rating services, such as Moody's, Standard & Poor's, or Fitch, denoting evaluations of the investment and credit risk attached to securities.

• Suitability

  The appropriateness of a strategy or transaction, in light of an investor's financial means and investment objectives.

• Trade Date

  The date a trade was entered into, as opposed to settlement date.

• Treasury Bill

  A federal bearer obligation issued in denominations of $10,000 to $1 million with a maturity date usually of three months to one year. It is fully marketable at a discount from face value (which determines the interest rate).

• Treasury Bond

  A federal registered or bearer obligation issued in denominations of $500 to $1 million with maturities ranging from 10 to 35 years, carrying a fixed interest rate and issued, quoted and traded as a percentage of its face value.

• Treasury Note

  A federal registered or bearer obligation issued in denominations of $1,000 to $500 million for maturities of one to 10 years, carrying a fixed rate of interest. These notes are issued, quoted, and traded at a percentage of their face value.

• Variable Note

  Interest rate on a security that is subject to change, commonly in connection with the rates paid on selected issues of Treasury certificates. Also called floating rate.

• Yield (Rate of Return)

  The percentage return on an investor's money in terms of current prices. It is the annual dividend/interest per share or bond, divided by the current market price of that security.

• Yield Curve

  Graph depicting the relation of interest rates to time: time is plotted on the x-axis (horizontal), and yields on the y-axis (vertical). The curve shows whether short-term interest rates are higher or lower than long-term rates. A positive yield curve results if short-term rates are lower, and a negative yield curve results if short-term rates are higher. A flat yield curve results if long- and short-term rates do not differ greatly. Generally, the yield curve is positive or upward sloping as investors are compensated for taking on more risk associated with longer term maturities.

• Yield to Call

  The yield of a bond or note if bought and held until the call date. This yield is valid only if the security is called prior to maturity. The calculation of yield to call is based on the coupon rate, the length of time to the call date and the market price.

• Yield to Maturity

  The rate of return anticipated on a bond if it is held until the maturity date. YTM is considered a long-bond yield expressed as an annual rate. The calculation of YTM takes into account the current market price, par value, coupon interest rate, and time to maturity. It is also assumed that all coupons are reinvested at the same rate.