Investing has a vocabulary problem. Most of it is ordinary ideas wearing expensive clothes, and none of it is hard once someone says it plainly.
This is every term we use across the blog, in one or two sentences each. No formulas. Skim it, or follow a link here from whatever you were reading and go straight back.
The basics
Asset
Anything you own that has value: cash, a building, machinery, or shares in a business. For a company, it is everything on its side of the ledger that could be used or sold.
Liability
Anything a company owes to someone else: loans, bonds it has issued, bills not yet paid. Liabilities are claims other people have on the company’s assets.
Equity
What is left for the owners after everything owed is subtracted from everything owned. When you buy a share, you are buying a slice of that leftover, which is why shares are also called equities.
Stock (share)
A unit of ownership in a company. Owning one makes you a part-owner of the actual business, entitled to your share of whatever it earns.
Market capitalization (market cap)
The total value of a company’s shares: the share price multiplied by shares outstanding. It tells you the size of the business the market is pricing, not the price of a single share.
Bond
A loan you make to a company or government. They pay you interest for a set period and return the original amount at the end. Safer than shares, and usually lower returns.
Index fund
A fund that simply buys every company in a market index rather than trying to pick winners. Cheap, diversified, and for most people the sensible default.
Mutual fund and ETF
Both pool money from many investors to buy a basket of assets. The practical difference is that an ETF trades on an exchange throughout the day like a share, while a mutual fund is priced once daily.
Reading the accounts
Balance sheet
A snapshot, on one specific day, of what a company owns, what it owes, and what is left over for owners. It tells you whether a business could survive a bad year.
Income statement
The record of what a company earned and spent over a period, ending in profit or loss. It answers “did this business make money last year”.
Cash flow statement
Where cash actually came from and went during a period. It matters because profit is an opinion shaped by accounting choices, while cash is a fact.
Cash flow
The actual money moving in and out of a business, as opposed to accounting profit. A company can report profits and still run out of cash.
Free cash flow
The cash left over after a company has paid for everything needed to keep running and to maintain its assets. This is the money actually available to owners, to reinvest, pay down debt, buy back shares, or pay dividends.
Book value
What the accounts say the owners’ stake is worth: assets minus liabilities. It is a starting point rather than an answer, because accounts can carry things at stale or optimistic values.
Net debt
What a company owes minus the cash it is holding. A company with more cash than debt has negative net debt, which is a comfortable place to be.
Leverage
Using borrowed money. It magnifies results in both directions: a good year becomes better, and a bad year can become fatal.
Working capital
The short-term cash a business needs to keep the lights on: money tied up in inventory and unpaid customer bills, less what it owes suppliers.
Shares outstanding
The total number of shares a company has issued. It matters because your slice of the business is your shares divided by this number.
Dilution
When a company issues new shares, every existing share becomes a smaller slice of the same business. Your holding did not change; your share of it shrank.
Buyback
The opposite of dilution: the company uses its own cash to buy its shares back and cancel them, so each remaining share owns a bigger piece. Good when the shares are cheap, value-destroying when they are not.
Earnings per share (EPS)
A company’s profit divided across each share. Useful, but easy to flatter, because buying back shares raises it even if the business earned nothing extra.
Earnings power
What a business can reliably earn in a normal year, stripping out one-off good and bad luck. It is a judgment, not a number you can look up.
Trough earnings
What a business earns at the worst point of its cycle. Valuing a cyclical company on its best year is how people overpay.
10-K and SEC filings
Reports US-listed companies must file with the regulator. The 10-K is the detailed annual one: the primary source, written under legal liability, and not someone’s summary of it.
What it is worth
Intrinsic value
What a business is worth, based on the cash it will produce over its life. Nobody can calculate it exactly; the goal is a sensible range, not a precise figure.
Margin of safety
The gap between what you think something is worth and the lower price you insist on paying. It is room to be wrong without losing money.
Multiple
A shorthand for how expensive something is, expressed as a ratio of price to something the business produces. “Trading at 15 times earnings” means the price is fifteen times annual profit.
Price-to-earnings ratio (P/E)
The best-known multiple: share price divided by earnings per share. Roughly, how many years of current profit you are paying for.
Earnings yield
Earnings per share divided by share price, the inverse of the P/E ratio, expressed as a percentage. It lets you compare a stock’s return on your money directly against a bond’s yield.
CAPE ratio
A price-to-earnings ratio that uses the average of ten years of inflation-adjusted earnings instead of just the last year, smoothing out the effect of a single unusually good or bad year on the multiple. Also called the Shiller P/E, after the economist who popularized it.
EBITDA
Earnings before interest, tax, depreciation and amortization: profit measured before several real costs are subtracted. Widely used, and worth treating with suspicion, because those costs do not stop existing.
Discounted cash flow (DCF)
A way of estimating what a business is worth by projecting the cash it will generate and adjusting it for the fact that money arriving years from now is worth less than money today.
Risk-free rate
The return available with essentially no risk of default, usually approximated by short-term government bonds. Every other investment’s expected return is judged against this baseline.
Cost of capital
The return a company must offer to attract the debt and equity it needs to operate: the risk-free rate plus whatever extra investors demand for the risk of lending to or owning it. Used as the discount rate when a business evaluates its own projects.
Discount rate
The annual return you demand for tying your money up and taking the risk. A higher demanded return makes distant future cash worth less today.
Basis point (bp)
One hundredth of one percentage point. Rates and spreads are quoted in basis points because a move of “0.25%” and “25 basis points” are the same thing said two ways, and the second is harder to misread.
Return on invested capital (ROIC)
How much profit a company produces from the money put into it. Consistently high figures suggest a business with a real advantage rather than a lucky year.
Return on investment (ROI)
The plainest measure of whether something worked: what you got back relative to what you put in, as a percentage.
Dividend
Cash a company pays directly to shareholders out of its profits. Not every good company pays one. Some create more value reinvesting it.
Dividend yield
The annual dividend as a percentage of the share price. A very high yield is often a warning that the market expects the dividend to be cut.
Judging the business
Fundamental analysis
Judging an investment by the underlying business (its earnings, cash flow, debts and competitive position) rather than by its recent price movements. Everything else in this section is a tool for doing it.
Moat
A durable advantage that keeps competitors from taking a company’s profits: a brand people insist on, costs rivals cannot match, or the sheer hassle of switching away. Warren Buffett’s term, borrowed from castles.
Pricing power
The ability to raise prices without losing customers. It is the most honest evidence that a moat is real.
Quality (QMJ)
Shorthand for how good the underlying business is (profitable, safe, honestly accounted for), separate from whether the shares are cheap. QMJ stands for “quality minus junk”, from academic research comparing strong businesses with weak ones.
Capital allocation
What management does with the cash the business produces: reinvest it, buy something, pay down debt, buy back shares, or pay it out. Over a decade this decides more of your return than almost anything else.
Insider
Someone who runs or directs the company. Their own buying and selling is disclosed publicly, which makes it one of the few honest signals available.
Insider buying
Directors or executives spending their own money to buy shares in the company they run. It does not guarantee they are right, but nobody buys stock they think is going to zero.
Skin in the game
Whether the people running the company have their own money at risk alongside yours. Pay tied to the share price is not the same as having bought shares.
Circle of competence
The set of businesses you actually understand well enough to judge. How wide it is matters less than being honest about where its edge lies.
Key performance indicator (KPI)
The handful of numbers that show whether a particular business is working: subscriber numbers for one company, store sales for another.
Value trap
A share that looks cheap and stays cheap, because the business underneath is deteriorating. The low price was a correct assessment.
Turnaround
A struggling business being fixed: new management, a smaller cost base, a sold-off distraction. Attractive when the market still prices it as broken after it has recovered; risky because most turnarounds do not turn around.
Buying and sizing
Fat pitch
A rare opportunity where everything lines up: a business you understand, clearly better than its price suggests. Borrowed from baseball, where the best hitters waited for the easy pitch instead of swinging at everything.
Falling knife
A stock falling fast and hard, often for a reason still unfolding. “Catching a falling knife” means buying purely because the price has dropped a lot. Margin of safety comes from knowing what something is worth, and how far it has already fallen tells you nothing about that.
Distressed sale
An asset sold by someone under pressure (a forced liquidation, a lender calling in a loan, a fund facing redemptions) rather than by a seller who could wait for a better price. The discount reflects the seller’s situation, not necessarily the asset’s worth.
Position sizing
Deciding how much money to put into one investment. It is the decision that still protects you when you turn out to be wrong about everything else.
Concentrated position
A holding large enough that its performance meaningfully moves your entire portfolio. The trade-off with diversification: more conviction, more damage if you are wrong.
Kelly criterion
A mathematical formula for the bet size that maximizes long-run growth. In investing its inputs are estimates rather than facts, so it is used as a ceiling to stay well under, never as an instruction.
Dry powder
Cash deliberately kept free so you can act when a real opportunity appears. Money already committed cannot take advantage of a better price.
Staged buying (dollar-cost averaging)
Buying in installments over time instead of all at once. It gives up the best possible outcome in exchange for not depending on a single day’s price.
Limit order and market order
A market order buys immediately at whatever the current price is. A limit order buys only at the price you name or better, so you set the terms rather than accepting the market’s.
Liquidity
How easily something can be turned into cash without moving its price. Shares in a large company are liquid; a building is not.
Diversification
Spreading money across different investments so that being wrong about one does not sink you.
Asset allocation
How your money is split across broad categories: shares, bonds, cash. It tends to determine your experience more than which individual shares you picked.
Risk tolerance
How much decline you can live through without abandoning your plan. It is measured by behavior in a bad market, not by intention in a calm one.
Buy and hold
Owning something for years and ignoring short-term price moves, on the basis that the business’s results eventually show up in the price.
How markets behave
Mr Market
Ben Graham’s image of the market as a moody business partner who offers you a different price every day. He is there to serve you, not to tell you what things are worth.
Volatility
How much a price swings around. Often used as a synonym for risk, though a falling price is only a real loss if the business is impaired.
Beta
A measure of how much a share moves relative to the market as a whole. Useful as a description, weak as a measure of the risk that counts: losing money permanently.
Sharpe ratio
Return measured against how much the price bounced around to get it. A common way to compare funds, and one that treats upside swings as a bad thing.
Bull market
A sustained period of rising prices and general optimism.
Bear market
A sustained period of falling prices, conventionally a drop of 20% or more, usually accompanied by the feeling that it will not stop.
Drawdown
The decline from a portfolio’s highest point to its subsequent low, as a percentage. The maximum drawdown, the worst decline you actually lived through, says more about what an investment felt like than its average return does.
Market timing
Trying to predict when to get in and out. It requires being right twice, and the evidence that anyone does it reliably is thin.
Compounding
Returns earning returns. It is unremarkable for years and then does almost all the work at the end, which is why interrupting it is so expensive.
Time-weighted return (TWR)
A performance measure that strips out the effect of when you added or withdrew money, showing how the underlying investments actually performed. Useful for judging a strategy or manager; less useful for judging how much money you personally ended up with.
FOMO
Fear of missing out: buying because something is going up and others are making money. It is the most reliably expensive emotion in investing.
Styles of investing
Value investing
Buying businesses for less than they are worth and waiting for the gap to close. It assumes price and value drift apart and eventually reconnect.
Growth investing
Focusing on companies expanding quickly, accepting a higher price today for larger earnings later.
Income investing
Prioritizing investments that pay you regularly (dividends and interest) rather than relying on the price rising.
Missing a term you had to look up? Tell us and it goes in.
