Glossary

A valuation ratio measured by share price to book value. P/B ratio = Price per share / Book value per share Compare: P/E ratio, P/CF ratio, P/S ratio See also: Book value of equity, Market value of equity

A valuation ratio measured by share price to cash flow. (Less susceptible to manipulation than P/E ratio) P/CF ratio = Price per share / Cash flow per share Compare: P/E ratio, P/S ratio, P/B ratio

A valuation ratio measured by share price to earnings. P/E ratio = Price per share / Earnings per share Compare: P/CF ratio, P/S ratio, P/B ratio See also: Justified P/E

A valuation ratio measured by share price to sales. P/S ratio = Price per share / Sales per share Compare: P/E ratio, P/CF ratio, P/B ratio

CPI calculated using the current composition of a basket of products. See also: Laspeyres index, Fisher Index

A statistical test for differences based on paired observations drawn from samples that are dependent on each other.

A type yield curve that plots the coupon rate that a hypothetical bond at each maturity would need to have to be priced at par, at various maturities. Derived from spot rates. Compare: Coupon bonds yield curve, Spot curve

Type of mortgage loan where the principal is not fully repaid at the end of the loan period.  The loan payments include some repayment of principal, but is insufficient to fully repay off the principal. As such, together with the final loan payment, the remaining principal that is outstanding has to be repaid to settle the loan.  This is called ...

Participating preference shares receive extra dividends if firm profits exceed a predetermined level, and may receive a value greater than the par value if the firm is liquidated.  Compare: Non-participating preference shares

A category of structured financial instruments that allows investors to participate in the return of an underlying asset.  Example: Float-Rate Note

Participation Ratio = Size of Labour Force / Working-age Population The labour force of an economy consists of those who are employed, including the underemployed, and those who are actively searching for a job.  Compare: Unemployment Rate

The coupon rate of a mortgage pass-through security.

An investment strategy characterised by simple decision rules for making daily investments. The focus for passive strategies is on safety and liquidity, so the portfolios are less aggressive.  T-bills are often used, and held to maturity and rolled over until the cash is needed. Compare: Active short-term investment strategy

An activity ratio that measures the efficiency of a firm in managing its payables. Payables turnover = Purchases / Avg Payables See also: Number of days of payables

In capital budgeting, the number of years required to recover the original investment in a project. The payback is based on cash flows. See also: Discounted payback period

The day that a company actually mails out or electronically transfers a dividend payment to the shareholders. See also: Declaration date, Ex-dividend date, Holder-of-record date

The pecking order theory suggests that managers choose methods of financing according to a hierarchy that gives first preference to methods with the least potential information content, and lowest preference to the form with the greatest potential information content. The order is usually internally generated equity, followed by debt. Public equity offering is the least preferred. According to this theory, ...

A group of companies engaged in similar business activities whose economics and valuation are influenced by closely related factors.An analyst will usually examine a company relative to its peer group for valuation comparisons.

Defined Benefit Plan and Pension Obligation LEVEL II Defined benefit plans promise a contractual regular amount that an employer pledges to provide to its employees post-retirement. The employer is responsible for making appropriate contributions and investment decisions to ensure there are sufficient pension assets to pay out the earned benefits when due. The estimated amount of these earned benefits, discounted ...

Perfect competition refers to a market in which many firms produce identical products, barriers to entry into the market are very low, and firms compete for sales only on the basis of price. Firms face perfectly elastic demand curves at the price determined in the market because no firm is large enough to affect the market price. Perfect competition is ...

Measure the profitability of the firm in generating positive operating cash flows. Such ratios include: Cash flow to revenue, Cash return on assets, Cash return on equity, Cash to income, Cash flow per share

Costs (e.g. rent, employee salary) that cannot be directly matched with the timing of revenues and which are thus expensed immediately.

With regards to inventory, costs to be immediately expensed in the income statement. These include: Abnormal waste Storage costs Admin overhead Selling costs

Inventory accounting system where inventory values and COGS are determined at the end of the accounting period. No detailed records of inventory are maintained.  Instead, inventory acquired during the period is reported in a Purchases account. The purchases account records inventory acquired during the period. Compare: Perpetual inventory system

The number of bond coupon payments per year. For a given coupon rate, the greater the periodicity, the more compounding periods, and the greater the annual yield. e.g. A semi-annual fixed coupon bond has a periodicity of 2.

Differences between tax reporting and financial reporting that will not be reversed in the future. These result in a difference between the company’s effective tax rate and statutory tax rate. They do NOT result in DTA or DTL. Compare: Temporary differences

A type of Blockchain network where users have different levels of access. For example, a permissioned network might allow network participants to add new transactions, while giving government regulators permission to view all the transaction history.  Compare: Permissionless networks

A type of Blockchain network where all network participants, not just the regulators, can view all transactions. These networks have no central authority, which gives them the advantage of having no single point of failure. The ledger becomes a permanent record visible to all, and its history cannot be altered. This removes the need for trust between the parties to ...

To find the number of ways to choose r elements from n elements. (sequence IS important)

Inventory accounting system where inventory values and cost of goods sold are updated continuously. Inventory purchased and sold is recorded directly in inventory when the transactions occur. As such, a purchases account is not necessary. Compare: Periodic inventory system

Annuities with infinite lives. To calculate the PV of a perpetuity: PVperp = PMT / r PMT: payment per period r: discount rate per period

PDI = Personal Income – Personal Income Taxes PDI measures the amount that households have available to either save or spend on goods and services, and is an important economic indicator of the ability of consumers to spend and save.

Analytical/visualisation tool to communicate the composition of a total value. Shortcoming: Limited to a snapshot at a particular time

Bond that makes periodic, fixed coupon payments during the bond’s term and a lump-sum payment of principal at maturity (balloon payment). A plain vanilla is a type of bullet bond.

An interest rate swap in which one party pays a fixed rate and the other pays a floating rate. Both payments are in the same currency.

A CMO with a PAC tranche and Support tranche. PAC tranches have lower prepayment risk. If the PSA falls within the initial collar, the estimated average life will be achieved. Support tranches have higher prepayment risk. If the PSA increases, the average life is lower than estimate. If the PSA decreases, the average life is higher than estimate. Compare: Sequential ...

A distribution that has relatively less weight in the tails than the normal distribution.

Payment. Regular series of cash flows in a TVM problem. One of the 5 parameters in TVM.

Drawn on graph paper, and are helpful in identifying changes in the direction of price movements. The vertical axis denotes the price, but the horizontal axis does not represent discrete units of time. It represents sequences, but each unit has no bearing on the length of time.

Single value used to estimate a population parameter. Compare: Confidence interval

Official or benchmark interest rate set by the central bank.  The purpose of the policy rate is to influence market interest rates, and ultimately real economic activity. See also: Neutral rate of interest

Individual securities can be combined into pooled investment vehicles. The term refers to structures that combine the funds of many investors to build up a portfolio of investments.  Such pooled investment vehicles can be mutual funds, exchange-traded funds, asset-backed securities or hedge funds.  The investor’s ownership interests can be referred to as shares, units, depository receipts, or limited partnership interests.

A statistical test for differences between two parameters based on assumption of independent samples and same variances.

Set of all possible members of a group of interest.

The arithmetic mean of all the observations or values in a population. μ = ∑X / N

Measure used to describe a characteristic of the population. e.g. population mean μ

A measure of dispersion relating to a population in the same unit of measurement as the observations. Calculated as the positive square root of the population variance.

A measure of dispersion relating to a population, calculated as the mean of the squared deviations around the population mean μ.

According to Porter, the five determinants of the intensity of competition in an industry are: the rivalry among existing competitors. the power of buyers. the power of suppliers. the threat of new entrants.  and the threat of substitutes.

The company in which a private equity fund is invested in.

For a 2-asset portfolio: E(wxX + wyY) = wxE(X) + wyE(Y) Note: E(X) and E(Y) should be calculated using the joint probability table if X and Y are NOT independent.

The standard deviation for the portfolio is a function of the standard deviations of the assets that make up the portfolio, their respective weights in the portfolio, and the correlation of returns between the two assets.   See also: Portfolio return, Portfolio variance

For a 2-asset portfolio: σ2(wxX + wyY) = wx2σ2(X) + wy2σ2(Y) + 2wxwyCov(X,Y) For a 3-asset portfolio: Variance = wx2σ2(X) + 2wxwyCov(X,Y) + wy2σ2(Y) + 2wywzCov(Y,Z) + wz2σ2(Z) + 2wzwxCov(Z,X)

An ESG investment style that focuses on the inclusion of certain sectors, companies, or practices in a fund or portfolio on the basis of specific minimum ESG criteria. It is typically implemented through an ESG ranking or scoring approach, to identify companies that can successfully manage ESG risks and may benefit from ESG-related opportunities in their sector. For example, positive ...

The level of real GDP that can be produced at full employment.

A type of equity interest which ranks above common stock with respect to the payment of dividends and the distribution of the company’s assets upon liquidation. They have characteristics of both debt and equity securities. See also: Non-cumulative preference shares, Cumulative preference shares, Participating preference shares, Non-participating preference shares, Convertible preference shares, Cost of preferred stock

If a bond is issued at a premium, the premium must be amortised over the term of the bond. This can be done using the Effective interest amortisation method or the Straight line amortisation method.

Asset account that is updated when a firm pays cash upfront for an anticipated expense.

Partial or full repayment of principal, in excess of the scheduled principal repayments. Prepayment is required to settle the loan when a homeowner sells his home or refinances during the mortgage term. Some homeowners prepay by paying more than their scheduled payments in order to reduce the principal outstanding, reduce their interest charges, and eventually settle their loans prior to ...

The uncertainty that the timing of the actual cash flows will be different from the scheduled cash flows due to the borrowers’ ability to prepay their loans, usually to take advantage of interest rate movement. Types: Contraction risk, Extension risk

Current value of some future cash flow or series of cash flows PV = FV / (1 + r)N FV: future value r: discount rate N: number of periods

Valuation models that estimate the intrinsic value of a security as the present value of the future benefits expected to be received from the security. The dividend discount model define such benefits as the expected future dividends to be distributed to shareholders.   For companies that pay little or no dividend, the FCFE model can be used. FCFE reflects the ...

Pretax Margin = EBT / Revenue

A type of stock index in which only prices are used in its calculation. The return of a price index is known as price return. Compare: Total return index

A measure of the return of a price index. It measures only the percentage change in price of the securities in an index. Excludes returns due to interim cash flows (e.g. dividends). Compare: Total return

Approximate absolute change in a bond’s price for a 1bp change in yield to maturity. PVBP = (V– – V+)/2

An index weighting method calculated as the arithmetic average of the prices of the securities included in the index. Compare: Market cap weighting, Equal weighting, Fundamental weighting

Markets in which issuers initially sell bonds to investors to raise capital. Issuers register with the regulators the bonds they wish to issue.   They can be marked as a public offering, or sold only to qualified investors as a private placement. Compare: Secondary bond markets

The market where securities are first sold and the issuers receive the proceeds. If it is the first time that the company is issuing shares to the public, the issue is called an initial public offering.   Otherwise, the issues are called seasoned offerings or secondary issues. Compare: Secondary capital markets

Brokers provide many services including custodial services, administrative services, money lending, securities lending for short sales, and trading services. Hedge fund managers primarily trade through prime brokers

In the US, mortgages made to borrowers with good credit are termed prime loans. The borrower must have strong employment and credit histories, and income sufficient to pay the loan obligation.   LTV ratio requirements can be more relaxed for prime loans. Compare: Subprime loans

A relationship in which principal (e.g. shareholder) hires an agent (e.g. management, BOD) to perform a particular task or service.

Before the committed capital is fully drawn down, a process which typically takes 3 to 5 years, the management fee is based on committed capital, not invested capital. After the committed capital is fully invested, the fees are paid only on the funds remaining in the investment vehicle. As investments are exited, capital is paid back to the investors, and ...

Generally means investing in privately owned companies, or in public companies with the intent to take them private.  Private equity are usually categorised according to their investment strategy.  They include: leveraged buyouts, venture capital, development capital, and distressed investing.   See also: Limited partnership, Private equity fee structure

An investment in the equity of a publicly traded firm that is made at a discount to the market value of the firm’s shares. This type of investment is generally sought by a public company that is in need of additional capital quickly, and is willing to sell a sizeable ownership position to private investors. 

Non-underwritten, unregistered offering of bonds to selected qualified investors. The placement can be direct between the issuer and the investors, or through an investment bank. Compare: Public offering

Inflation measure that reflects the price changes experienced by producers.  This is based on items like fuels, farm products, machinery and equipment, transportation equipment, and so on.  Because price increases of these items may eventually pass through to consumers, the PPI can be a predictor of the future CPI. 

When a monopoly seeks to maximise profit by producing at the level where its MR equal MC, it increases its producer surplus, but at the expense of consumer surplus.  See also: Consumer Surplus, Deadweight Loss

With regards to inventory, costs to be capitalised in the balance sheet. These include: Purchase costs Conversion costs Delivery costs

PI = 1 + NPV/Initial Cost The present value of a project’s future cash flows divided by the initial investment. See also: Payback period, Discounted payback period

Measure overall performance of a firm relative to its revenue, assets, equity and capital. They include: Gross Profit Margin, Operating Profit Margin, Pretax Margin, Net Profit Margin, ROA, Operating ROA, ROE, Return on common equity, Return on total capital

The specific systematic risk (β) of a project. This can be different from the firm’s cost of equity, and may be more suitable for NPV analysis of a project. The pure-play method is one approach to estimating project beta. See also: CAPM

Tangible assets used in the production of goods and services. Valued using Cost model or Revaluation model.

An option strategy in which a long position in an asset is combined with a long position in a put. Used in the derivation of put-call parity. See also: Fiduciary call

Issued to shareholders when there are matters that require a shareholder vote. These statements  are a good source of information about the election of board members, compensation, management qualifications, and the issuance of stock options.

An offering of securities in which any member of the public may apply for the securities. Public offerings can be in the form of an underwritten offering, best efforts offering, a shelf registration, or a bond auction. Compare: Private placement

In the US, CPR is measured and described against a benchmark called the PSA benchmark.   The benchmark is expressed as a series of monthly prepayment rates. Based on historical patterns, it is assumed that prepayment rates increase by 0.2% for the first 30 months until they peak at 6%.   Slower or faster prepayment rates are then referred to ...

Purchasing Power Parity (PPP) is a principle in international finance that states that the exchange rate between two currencies should equal the ratio of the domestic price level to the foreign price level. In other words, PPP states that a basket of goods should cost the same in both countries after accounting for exchange rate changes. This principle helps explain ...

A method for estimating the project beta, using a comparable company’s beta and adjusting it for financial leverage differences.

An option contract that gives the LONG the right to SELL an underlying asset to the SHORT at the exercise price, but no obligation to. The SHORT is required to BUY at the exercise price, if LONG exercises the right to sell. Value of European option (PUT) at expiration: CT = max(0, X-ST) ST: Spot price at expiration X: Exercise ...

An embedded option of a putable bond that gives the bondholders the right to sell the bond back to the issuer, at a pre-determined price, on specified dates. Puttable bonds are beneficial for the bondholders by guaranteeing a pre-specified selling price at the put dates. If market interest rate increases, the bondholder can sell back the putable bond at face ...

An equation that expresses the parity of a portfolio of a call option and a bond with a portfolio of a put option and the underlying. This equation helps explain the relationship between put and call prices. Derived from the relationship: Protective put = Fiduciary call S0 + p0 = c0 + X/(1+rf)T S0: Long underlying at its spot price ...

An equation that explains the no-arbitrage relationship between the pricing of put option, call option, and forward contract of an asset. Derived from the relationship: Synthetic Protective put = Fiduciary call F0(T)/(1+rf)T + p0 = c0 + X/(1+rf)T F0(T)/(1+rf)T: Long forward contract p0: Long put option c0: Long call option X/(1+rf)T: Lend $X at risk-free rate (X: strike price)

The proportion of put volume to call volume. A rising ratio indicates increasing bearishness, while a falling ratio indicates increasing bullishness. It is is often used in a contrarian strategy as a signal to buy at extremely high ratios which indicates an oversold market, and to sell at extremely low ratios which indicates an overbought market.