Investment types and terminology

How and where you invest your hard-earned money is an important decision. However, fully understanding your investments can require a crash course in terminology. The following definitions for a few key terms can help increase your understanding of the investment process and enable you to make better decisions:

Investment types

The most common terms that are related to different types of investments:

• Bond: A debt instrument, a bond is essentially a loan that you are giving to the government or an institution in exchange for a pre-set interest rate paid regularly for a specified term. The bond pays interest (a coupon payment) while it's active and expires on a specific date, at which point the total face value of the bond is paid to the investor. If you buy the bond when it is first issued, the face or par value you receive when the bond matures will be the amount of money you paid for it when you made the purchase. In this case, the return you receive from the bond is the coupon, or interest payment. If you purchase or sell a bond between the time it is issued and the time it matures, you may experience losses or gains on the price of the bond itself.
• Stock: A type of investment that gives you partial ownership of a publicly traded company.
• Mutual fund: An investment vehicle that allows you to invest your money in a professionally-managed portfolio of assets that, depending on the specific fund, could contain a variety of stocks, bonds, market-related indexes, and other investment opportunities.
• Money market account: A type of savings account that offers a competitive rate of interest (real rate) in exchange for larger-than-normal deposits.
• Exchange-Traded Fund (ETF): ETFs are funds – sometimes referred to as baskets or portfolios of securities – that trade like stocks on an exchange. When you purchase an ETF, you are purchasing shares of the overall fund rather than actual shares of the individual underlying investments.

Investment strategies

Once you have a better understanding of the investment choices available, you may come across specialized terms that explain how money can be invested:

• Allocation of investments: Also known as asset allocation, this term refers to the types of investments/asset categories you own and the percentage of each you have in your investment portfolio.
• Diversification: This is a risk management technique that mixes a wide variety of investments to potentially minimize your investment risk.
• Dollar cost averaging: An investment strategy used whereby an investor purchases fixed investment amounts at predetermined times, regardless of the price of the investment. This strategy minimizes risk because it reduces the difference between the initial investment and the current market value over a long enough timeline.