A call option is a financial arrangement under which someone has a right (but not an obligation) to buy an underlying asset (a commodity or financial instrument) at a certain price and on a certain date. The agreed upon price is called the strike price, and the deadline for using the option is its expiration. The buyer pays a premium for this option.
Candlestick patterns are trends that can be seen on a candlestick chart, which gives a graphic representation of short-term price movements and can reflect the emotions of traders.
A candlestick chart shows four data points: the day’s opening and closing price, and the day’s high and low price. The difference between the opening and closing price is displayed as a solid black bar (if the price has dropped overall during the day) or a hollow white bar (if the price has risen overall). Red or green bars are sometimes used to reflect the same information. The high and low price is depicted with wicks or tails: single black lines extending upward or downward from the bar.
Candlestick charts can display regular patterns with inventive names like big black candle, inverted hammer, or shaven head. They can be characterised as either bearish (price likely to drop) or bullish (price likely to rise).
Capital, in its broadest sense, is assets available for use to produce goods or services. Financial capital is the money or resources a company has to carry out its business; it is generated through investments or by retaining earnings. This type of capital can be further broken down into the categories of working capital, debt, equity, or trading capital (in the case of brokerages).
In macroeconomics, a capital account records the overall changes in a nation’s assets and liabilities over a set period of time. It includes inward and outward foreign direct investment, purchases or sales of bonds on the international market, the reserve account, and other international investment flows.
The capital account indicates whether a country is a net importer or exporter of capital (i.e. whether more money is flowing out of the country—deficit—or into the country—surplus). When paired with the current account, it forms a country’s balance of payment, which should balance out to zero.
Capital asset pricing model
The capital asset pricing model is a way of determining a fair rate of return on an investment based on its risk. The model’s formula takes into account the risk free rate, the average risk of the market, and the difference between these first two variables (known as the market premium), as well as a coefficient stating the degree to which an investment’s risk exceeds or falls below that of the market.
This method is used to decide whether a stock is priced right given its risk and the time value of money (which is money’s potential earning power over time).
Capital expenditure, or CAPEX, refers to capital investments, namely, the costs incurred by a company in order to acquire a number of material assets. These investments affect a company’s balance sheet and play an important role in its business assessment. These are costs incurred to develop an activity or perform new business strategies.
Capital expenditures include various types of purchases, for example, company equipment, a new office or building a factory to improve a company’s logistics. The CAPEX indicates how much a company is investing in material assets and capital goods and is shown on a company’s financial report.
A capital gain is an increase in the worth of a capital asset (an investment or real estate asset) above its original worth when purchased. Capital gains can be unrealised, meaning the owner of the asset has not cashed in on the increase in worth and it exists on paper only, or realised, when a profit is made from the sale of the capital asset. Realised capital gains are taxable, while unrealised capital gains are not.
Capital Gains Tax
The capital gains tax applies to the amount by which an investment has grown in value. It is levied when the asset is sold, given away, or swapped (meaning the investment gains are “realised”). In the United Kingdom, these gains are taxed at a flat rate of 18%.
For example, if you buy £20,000 of shares in a company, and two years later you sell those exact same shares for £30,000, your realized gains will be £10,000. You will owe £1800 (18% of your realised gains) in capital gains tax.
Capital goods are assets used in the process of producing consumer goods, which are the finished products sold by an enterprise. To be considered a capital good, an asset must be tangible, so assets like trademarks and patents are excluded. Examples of capital goods include assembly lines, printing presses, vehicles or offices themselves.
In accounting, they are classified as fixed assets, meaning they are long-term and can’t be easily converted into cash. In accounting, capital goods are referred to as plant, property, and equipment.
A capital investment is an injection of cash into a company, so it can meet its business objectives. The investment may be made as a loan, in exchange for a share of future profits, or under a different arrangement. Sources of capital investments include venture capital firms, banks, a company’s own reserves, or, for publically listed companies, a bond issue. Capital investments are used to acquire fixed assets that will add value and grow the business. The funds are not meant for everyday expenses.
Also known as share capital, capital stock is the total number of shares of any type that a company can issue, as stated in its corporate charter. This number can be expanded to raise more capital, but the company thus relinquishes equity and could lower the value of each share.
Capitalism is an economic system based on private ownership of means of production, which are the elements needed to produce goods and services (such as land, labour, and capital). Capitalism is premised on private property, and transactions are driven by supply and demand (free markets). The theoretical foundations of capitalism and free markets were laid by Scottish Enlightenment philosopher Adam Smith, known as the “Father of Capitalism”.
One of capitalism’s primary alternatives as an economic system is socialism, in which the means of production are publicly owned (i.e. owned by the government). One aim of socialism is more equal wealth distribution. Capitalism currently prevails in most countries, though not pure, free-market capitalism (also known as laissez-faire capitalism), in which all transactions are governed by supply and demand alone and depend solely on the will of the transacting parties. Rather, countries use a mixed economic system in which capitalism has significant government oversight.
Capitalization has at least three main definitions:
- In accounting, capitalization means listing an item as an asset and offsetting the cost of it against taxable income over the life of the asset through depreciation.
- In finance, capitalization can be a synonym for the book value of a company. It is calculated by adding up a company’s liabilities (debt), stock (equity) and retained earnings.
- A related term in finance is market capitalization, shortened to “market cap” in informal parlance. Market capitalization is the number of shares of a company multiplied by the share price.
Cash cow is a business slang term for a reliability profitable venture or asset. A cash cow provides a stream of money that can be used to fund other investments, deals, or business units. It requires little outlay compared to the income it generates and needs little maintenance, meaning it has a high return on assets (ROA). In short, cash cows are low risk, high reward investments. The Boston Consulting Group (BCG) has further popularized this term in a matrix describing four categories for business units: cash cow, question mark, dog, and star.
Cash flow is the net amount between a company’s inflows and outflows. Inflow refers to the income received by a company, for example through the sale of products and services to clients. Outflow is the company’s outgoings, for example the cost of buying products from suppliers and paying employees’ salaries. Cash flow is positive if the inflow exceeds the outflow, or negative if the outflow exceeds the inflow.
There are three types of cash flow. Operating cash flow refers to a company’s operating activities. Cash flow from investing activities is the money a company earns from its investing activities after deducting costs. Cash flow from financing activities refers to the funding a company receives.
Certificate of deposit
Commonly shortened to “CD,” a certificate of deposit is a financial product in which the investor agrees to deposit money for a fixed term in exchange for a set interest rate. A CD has penalties for withdrawing the money before its maturity date (which is the end of the term). CDs are generally insured, so they are virtually risk free. In most cases CDs with longer terms offer higher interest rates. Investors can set up CD ladders, which are staggered structures of CDs with different maturities and interest rates, to create a more liquid investment and avoid becoming completely locked in to an unfavourable rate.
Certificate of insurance
A certificate of insurance (COI) is a document provided by an insurance company or broker that proves an insurance policy’s existence and states its most important details. It includes information such as the names of insured and insurer, a summary of the policy’s coverage and coverage limitations, and the coverage’s start and end dates.
A COI is important in business contexts, as it shows hirers that they will not be held liable for contractors’ mistakes since they are covered by insurance.
Known as a current account in the UK, a checking account is a deposit account at a financial institution that the account holder can move money into or out of. Its funds are liquid and can be accessed using cheques, ATMs, or electronically via debit cards. Because the funds can be immediately converted into cash, these accounts do not offer high interest rates.
Child Tax Credit
The Child Tax Credit is an amount of money that people responsible for a child can subtract from the total amount of taxes they owe the government in order to offset the cost of raising that child. In the United Kingdom, the Child Tax Credit is being replaced by the Universal Credit but still applies in some situations. The credit is means tested—the amount varies based on a person’s income.
CFD trading (Contract for Difference trading)
CFD trading is the purchase and sale of Contracts for Difference, which are derivatives that track the price movements of underlying assets or securities. They are not an investment in the asset or security themselves but can rather be understood as a wager on whether their price will go up or down. An investor can sell the CFD to cash in on a rise in price of a security, reaping all the benefits that someone who owned the security would but without ever having to own it. This lowers the barrier for entry for an investor, since they do not have to pay for an entire stock or asset in order to benefit from a rise in its value.
CFD trading is banned in the US but is practiced in Europe.
CFTC stands for the Commodity Futures Trading Commission, which is a US government agency that supervises trade in financial derivatives in the US. The derivatives that fall under its authority include commodity futures (arrangements to buy or sell raw good in the future at a set price) and specific kinds of options (agreements that allow, but do not require, investors to by an asset on a certain date at a specific price). The agency was formed by the Commodity Futures Trading Commission Act of 1974 and has evolved to meet the new challenges brought by globalisation and the use of technology in the financial space.
Broadly speaking, commercial banks are financial entities that provide services like holding deposits or granting loans to the general public. A subset of commercial banking is retail banking, which serves individual customers with financial products like car financing, mortgages, credit and debit card services, checking accounts and vaults for storing valuables.
Under a narrower conception, a commercial bank is the only one that provides financial services like trade finance and cash management to business. Commercial banks make money by charging fees for services and also for lending money at a higher interest rate than the one they pay their depositors.
Not included in the category of commercial banks are investment banks, which deal with complex transactions like underwriting, mergers and acquisitions for large corporate clients; credit unions, which are not-for-profit institutions that usually provide retail banking services; and central banks, which are government entities that control monetary policy.
Commercial Mortgage-Backed Security
A Commercial Mortgage-Backed Security (or CMBS) is a financial instrument that sells the debt of a pool of commercial real estate assets, such as offices, hotels, industrial sites, and apartment buildings. Individual mortgage loans for commercial properties are put into a trust (usually a Real Estate Mortgage Investment Conduit, or REMIC). They are then packaged together in a process called securitization and sold to investors. They often take the form of bonds with varying yield, maturity, and rating characteristics. On the whole CMBS are more volatile than their cousins, Residential Mortgage-Backed Securities (RMBS).
A commission is a cost to be paid for a service performed by a professional or a company. For example, an investor may pay a commission for an order placed by a bank to buy shares on the market, or a fee for financial advice. Portfolio managers also charge a commission in exchange for their service.
The commission may be a fixed cost, independent of the number or value of investments, or a percentage value based on the amount of the investment, such as the spread applied to CFD orders in online trading. An investor should always carefully analyse commissions, as values that are too high can reduce gains and increase losses.
A commodity market is a marketplace for the exchange of raw goods, such as agricultural products or minerals, as opposed to manufactured goods. A commodity market features two categories of trades: physical trades, which involve delivery and receipt of the goods themselves, or derivatives trading, which is the exchange of financial instruments backed by commodity-based assets. A common commodity derivative is a commodity futures contract—or a legal agreement to buy and sell a commodity on a specific date and at a specific price (the forward price).
Commodities markets have existed in one form or another for centuries. Early items traded were pigs and rare sea shells, followed by gold and silver. Today’s marketplaces see trade in agricultural products such as cotton, poultry, corn, or dairy products, or in hard commodities (mined raw materials) like copper or oil. Major exchanges are located in Chicago, New York, Tokyo, various European cities (as part of the Euronext platform), and in Dalian, China.
Commodity trading is the exchange of raw materials. Investors can participate in commodity trading by dealing directly in the unmanufactured goods themselves, or by trading financial instruments called derivatives that reflect an underlying commodity. Vehicles for trading in commodities without purchasing the raw materials themselves include futures contracts and exchange-traded funds.
Tradable commodities can be broken down into four main groups: energy (oil, etc.), metals, meat and livestock, and agricultural products (rice, coffee, sugar, etc.). Margins for commodities trades are usually quite small, so volume of trade is key to profitability.
In finance, conversion refers to the exchange of assets that can be converted into another type of asset. It is a transaction that generally involves a predetermined period of time for the exchange and represents a derivative financial instrument with a different valuation than the underlying reference on which it is built.
The conversion of a financial asset can only occur with certain convertible financial instruments. For example, it is possible to convert a convertible bond. In this case, the bondholder can convert the bond to a cash amount based on the conversion value agreed upon in advance with the issuer, e.g. when the conversion value is higher than the value of the bond itself.
A convertible bond is a debt instrument issued by a corporation that can be exchanged for stock in that corporation based on a fixed conversion ratio. Usually, the bondholder gets to decide whether to convert the bond a certain point during the security’s lifetime.
A convertible bond starts out by paying the holder a fixed rate, called the coupon rate, like any other bond.
If the company’s stock price goes up and shows good growth potential, the bondholder may choose to convert to equity to enjoy the stock’s full returns. If the stock is falling, the investor can keep the instrument as a bond and continue to receive its fixed income. From the company’s perspective, a convertible bond usually has a lower interest rate than other forms of financing, making it cheaper and more flexible.
A commodity is a raw material used as a basic input in the process of manufacturing goods. Commodities are traded in bulk and are interchangeable. Examples include cotton, wheat, lumber, beef, milk, crude oil, gold, and copper.
Commodity prices are volatile because of swings in supply and demand. Many traders seek to make a profit from these price fluctuations by buying and selling futures contracts: agreements to buy or sell a commodity for a set price on a certain future date. For example, if the value of the underlying commodity drops below the agreed price in the futures contract, the seller will make a profit, and the buyer will sustain a loss.
Other investors trade directly in physical commodities (like gold). The price of some commodities moves opposite to the equities market, making them an effective hedge.
Compound interest can be understood as interest paid on interest or interest payments calculated based on the principle of a loan or deposit plus the interest accumulated during all payment periods to date. Compounding interest is an important principle in long term investment because it is responsible for exponential rather than linear growth - the base on which interest is calculated increases at an ever-faster rate.
Interest can be compounded (meaning new interest is added back in for the purposes of calculating the next interest payment) with various frequencies, from daily to yearly. More frequent compounding leads to a quicker exponential growth of interest.
Corporate bonds are financial instruments issued by corporations as a way of financing their debt and/or increasing their capital. Investors who buy corporate bonds are essentially lending the corporation money. In contrast, those who invest in corporate stocks basically acquire a portion of the company.
Corporate bonds are usually backed by the company’s ability to make money in the future and pay back the amount borrowed. They can be classified as high grade (lower risk) or high yield (higher risk) based on their credit rating. Most corporate bonds are long-term securities, with maturities of over one year.
Corporate finance is the area of finance that deals with corporations’ funding and capital structure. It has two main sub-disciplines:
- capital budgeting: where decisions are made about how to invest the company’s capital and how to raise more, whether through debt (borrowing money from investment banks or other sources) or equity (selling more shares to investors);
- working capital: managing a corporation’s liquidity and cash flow to fund short-term operations.
A company’s corporate finance unit also handles accounting, tax decisions and prepares financial statements. The underlying goal of all its activities is to increase value for shareholders.
In the field of investment banking, the term corporate finance refers to finding and raising the right type of capital for companies (as an activity external to the company rather than part of its internal decision-making processes).
Corporate tax is the percentage of a business’ profits that a government takes in order to meet its obligations and provide public goods and services. Corporate taxes are not levied on a company’s total revenue but rather on its taxable income, which is the money a business earns after paying the cost of producing goods or services (this cost includes depreciation, research and development, operating costs, and other items). The current corporate tax rate in the United Kingdom is 19%.
A Cost-Benefit Analysis (CBA) is an assessment that businesses use to make decisions. Depending on the CBA’s outcome, a company can choose to turn down a project or to perform a certain transaction.
This process includes calculating the potential benefits of an action or decision by considering the costs to be deducted from the benefits that can be obtained. Benefits and costs can be tangible and measurable, such as costs incurred for a project and income generated by a company initiative. Benefits and costs can also be intangible, for example, customer satisfaction gained from a company decision or employee loyalty garnered after a specific action.
A Cost-Benefit Analysis is a decision-making process based on data. Nowadays companies use big data analysis for CBAs in order to improve decision accuracy and reduce error margins.
Covenants are legally binding promises inserted as clauses in debt agreements. They fall into two categories: affirmative covenants, in which the borrower commits to carrying out certain activities as a condition of the loan; and negative covenants, in which the borrower agrees to refrain from specified activities.
Common covenants include maintaining a pre-established debt-to-asset ratio, agreeing to hold specific insurance policies, ensuring that facilities are in good condition, or refraining from selling certain assets. If a borrower fails to comply with a covenant, in most cases the lender can retract the loan.
Credit is a very broad term referring to any instance in which something valuable is delivered but the payment (or repayment) of that valuable item is deferred.
When one party lends money to another, they are extending credit to them, which generates a debt. The debtor promises to repay the amount loaned, and this promise can be formalised in a contract or other instrument. In most cases those that extend credit earn interest, which is a premium paid by the borrower for the credit. The concept of credit is ubiquitous at all levels of the economy, from consumers who buy items on credit using a credit card to governments who issue debt in the form of bonds, which are then bought by creditors on the credit market.
A credit card is a thin rectangle of plastic, usually containing a chip or magnetic stripe with identification data, that allows its holder to borrow money from the financial institution that issued it to purchase goods or services. The card will have a credit limit, or the maximum amount the cardholder can borrow. The cardholder is then obligated to pay these funds back to the institution at a certain interest rate. Some credit cards provide rewards for amounts spent using them, and a person can build their credit score by using them.
Credit risk measures the likelihood that an individual, company, government or other entity will not be able to make its debt payments on time (known as defaulting). Lenders charge on loans in proportion to this risk: the higher the risk, the higher the interest rate as compensation for assuming the risk.
To evaluate a borrower’s credit risk, companies, banks or credit rating agencies often assess their credit history, ability to make payments based on income, overall capital, collateral pledged as part of the loan and the conditions of the loan itself.
The three largest credit rating agencies are Moody’s, S&P and Fitch. They score the credit risks of thousands of bond issuers, from municipal governments to corporations to entire sovereign nations.
A credit score is a number that a financial institution or credit bureau assigns to a person to rate the risk of lending that person money. People with higher scores are considered more creditworthy (more likely to pay back money they borrowed on time). A person’s credit score can significantly impact their financial life and determine whether they qualify for a loan or how favourable the terms of a loan will be.
Credit scores are generated by analysing people’s financial records, including levels of debt and other considerations. In the UK, there is no standardised credit rating system; rather, each lender assesses potential borrowers based on their own internal criteria, which is often confidential. In other countries, such as the United States, scores are more universal and readily accessible.
Credit unions are financial institutions structured as cooperatives, meaning they are jointly owned and operated by their participants. Credit unions provides services similar to those of traditional banks, such as savings and checking accounts, credit cards, loans, and other financial services.
They have non-profit status, so they are tax exempt. They can often offer more competitive interest rates and lower fees for many services since they are not beholden to shareholders looking for ever-larger returns. They are generally smaller than for-profit banks, so in some cases they are less flexible and have less options than their commercial counterparts.
Crude oil is a mix of hydrocarbons that naturally occurs in underground reservoirs. The term also refers to this same substance after it has been extracted from the reservoir but before it has been refined or transformed into consumer goods such as plastics or gasoline. Most economists consider crude oil to be the world’s most important commodity, and it is heavily traded both in its physical form and through derivative instruments.
A cryptocurrency is a virtual method for exchanging value in a secure way. Among the many types of cryptocurrencies, the most dominant in terms of market capitalisation is bitcoin. The value of cryptocurrencies is often volatile and fluctuates widely relative to the value of traditional currencies backed by the credit of a government. Cryptocurrencies are therefore widely used as an investment that can be traded to make a profit rather than a way to exchange value or provide compensation as a traditional currency would be used.
Most cryptocurrencies are secured using blockchain technology, which is a way of keeping a record (or ledger) of transactions and distributing it across an entire network of computers, so it is extremely difficult to hack. Some criticise cryptocurrencies for their volatility, speculative nature, and environmental impacts (they require large amounts of electricity). Proponents of the currency cite its portability, transparency, and potential to transform economies.
Cryptocurrency trading is the activity of buying and selling virtual mediums of exchange, such as Bitcoin, that are secured through cryptography. These currencies are traded through cryptocurrency exchanges, which, for a fee, allow traders to exchange their cryptocurrencies for fiat money (like U.S. dollars), other assets, or other cryptocurrencies.
Cryptocurrencies are secured using a technology called block chain, which allows them to be distributed across a dispersed digital network, making them relatively autonomous and beyond the direct control of monetary authorities. Their price can be volatile, so some view cryptocurrency trading as a high-risk activity. Others note that cryptocurrencies seem to hold their value well against inflation.
A currency is a money system that a group of people (such as a nation or set of nations) agree to use as a way to exchange value. Currently, the most common currency medium is paper bills or coins, and the world’s three most traded currencies are the United States dollar, the Euro, and the Japanese Yen. Cryptocurrencies are a relatively new digital way to exchange value online, secured by cryptography. Many traders seek to profit from trading currency pairs, since the value of different currencies fluctuate in relation to each other.
A currency exchange is a physical shop that is authorised to swap bills and coins of one currency for another. In a broader sense, in can also mean any form of trading currencies for profit. The more common term for this concept is the forex market, which is the world’s largest market in terms of volume of trades and liquidity. The relative value of one currency compared to another in an exchange (called the “spot rate”) is set by an international network of banks that trade currencies. Exchangers make a profit by charging a certain percentage above the spot rate on all exchanges.
Currency market (Forex)
Also known as Forex or Foreign Exchange market, the currency market consists of the transactions to buy or sell foreign currency. It is not centrally located; rather, it is made up of many dispersed deals that are not regulated by a central authority.
The largest players in the currency market are international banks, which make behind-the-scenes trades worth hundreds of millions of dollars with extremely slim spreads. Other major parties involved include multinationals, central banks (monetary authorities), hedge funds, and individual investors.
The currency market is the world’s largest financial market in terms of trade volume, with around $5 trillion exchanged per day. The market originally arose as a necessary result of foreign trade. For example, a German company that sells its products in US dollars would then make use of the currency market to convert its revenue into Euros.
In the trading sphere, currency strength is a measure of which currency is performing better than the others. Since currencies are traded in pairs (i.e., USD/EUR), the most common way to measure strength is relative to other currencies. With a single pair, it can be hard to discern whether an upward trend is due to strong performance by one currency or poor performance by the other, so indicators are compiled to compare a currency to a range of other currencies, providing a more comprehensive picture of its strength relative to the broader market.
In economics, currency strength essentially refers to a currency’s purchasing power, or the amount of goods and services a unit of that currency can acquire.
Currency trading is the activity of buying and selling foreign currencies in order to make a profit. Currencies are always traded in pairs, so when one currency is sold, another must be bought simultaneously. Since the values of currencies fluctuate relative to each other, currency traders make money by buying a currency and holding the investment until its value goes up.
The currency market, or forex market, is highly liquid and extremely voluminous, with trades worth trillions of dollars every day. Its activity is round-the-clock as different markets around the globe open and close at staggered times.
The term current account can be used for two separate concepts.
In personal finance, a current account is a bank account from which the owner can take money at any time using their cheque book or debit card (cash card). In American parlance, this type of account is referred to as a checking account.
In macroeconomics, the current account is a country’s total exports minus its total imports over a certain period of time. The United States generally has the world’s largest current account deficit, and China the largest surplus. The UK has run a current account deficit in recent years, meaning it is a net importer of products and services. A high current account deficit can be a red flag for investors, especially in uncertain times, and it can trigger volatility in forex markets.
The current ratio is calculated by dividing a company’s current assets (all assets to be converted to cash or consumed in the next year) by its current liabilities (all debts and other obligations due in the next year). This ratio is one measure of a company’s liquidity. Investors look at liquidity as part of fundamental analysis.
A high current ratio may indicate that a company is not taking full advantage of its current assets to produce more goods or services, while a low current ratio (of around one or less) is a sign that a company has solvency problems and may not be able to meet short term obligations.