APPENDIX D

Glossary of Technical Terms

American Depositary Receipts (ADRs) Certificates issued by a U.S. depository bank, representing foreign shares held by the bank in the country of issue. Each ADR can represent a fraction of a share, a single share, or multiple shares of foreign stock. If the ADRs are sponsored, the corporation provides financial information and other assistance to the bank and may subsidize the administration of the ADRs. Unsponsored ADRs do not receive such assistance.

American-style option An option contract that can be exercised at any time between the date of purchase and the expiration date.

amortized cost The amount at which a financial asset or liability is measured at initial recognition less principal repayments, plus or minus the cumulative amortization of any premium or discount, and minus any write-down for impairment.

arbitrage The simultaneous buying and selling of a security at two different prices in two different markets, resulting in profits without risk.

arm’s-length price The price at which two unrelated and non-desperate parties would agree to a transaction.

Asian option Option based on the average price of the asset during the life of the option.

ask price The quoted offer, or the lowest price an investor will accept to sell a stock to a buyer; also called the offer price.

asset-backed security A security that is collateralized by loans, leases, receivables, or installment contracts on personal property, not real estate.

at-the-money An option is at-the-money if the strike price of the option is equal to the market price of the underlying security. For example, if ABC stock is trading at 50, then the ABC option of strike price 50 is at-the-money.

bear An investor who believes a stock or the overall market will decline. A bear market is a prolonged period of falling stock prices.

bid price The quoted bid, or the highest price an investor is willing to pay to buy a security from a seller.

bid-ask spread The difference between the bid and asked prices.

binomial option pricing model An option pricing model in which the underlying asset can take on only two possible, discrete values in the next time period for each value that it can take on in the preceding time period.

Black-Scholes option-pricing model A model for pricing call options based on the stock price, the exercise price, the risk-free interest rate, the time to expiration, and the standard deviation of the stock return.

broker An individual who is paid a commission or brokerage for executing customer orders of buying and selling financial instruments.

call option An option contract that gives its holder the right (but not the obligation) to purchase a specified number of shares of the underlying stock at the given strike price, on or before the expiry date of the contract.

capital gain When a stock is sold for a profit, the difference between the net sales price of securities and their net cost, or original basis, is the capital gain. If a stock is sold below cost, the difference is a capital loss.

cash dividend A dividend paid in cash to the shareholders of the company. A cash distribution may include capital gains and return of capital in addition to the dividend.

commission The fee paid to a broker to execute a trade, based on number of shares, bonds, options, and/or their value.

common stock Securities that represent equity ownership in a company. Common shares carry voting rights. They also give the holder a share in a company’s profits via dividend payments or the capital appreciation of the security.

contract An agreement between two or more parties, having commercial consequences that the parties have little discretion to avoid as the agreement is usually enforceable by law. Contracts may take a variety of forms and need not be in writing.

counterparty risk Counterparty is the other party in a non-exchange-traded contract. The risk that the other party to an agreement will default is counterparty risk.

covered call A written call option position in which the writer owns the number of shares of the underlying stock represented by the option contracts. Covered calls limit the risk the writer takes, as the writer owns the underlying shares.

cumulative preferred stock Preferred stock whose dividends accrue, should the issuer not make timely dividend payments.

custodial fees Fees charged by an institution that holds securities in safekeeping for an investor.

day-trading Refers to establishing and liquidating the same position or positions within the same trading day.

debt securities Any debt instrument that can be bought or sold between two parties and has basic terms defined, such as notional amount, interest rate, and maturity/renewal date. Debt securities include government bonds, corporate bonds, municipal bonds, preferred stock, collateralized securities, and zero-coupon securities.

deferred taxes Amount allocated during the period to cover tax liabilities that have not yet been paid.

delivery versus payment A transaction in which the buyer’s payment for securities is due at the time of delivery (usually to a bank acting as agent for the buyer) upon receipt of the securities. The payment may be made by bank wire, check, or direct credit to an account.

derecognition The removal of a previously recognized financial asset or financial liability from an entity’s balance sheet.

derivative instrument A financial security, such as an option or a future, whose value is derived in part from the value and characteristics of another security, the underlying security.

detachable warrant A warrant entitles the holder to buy a given number of shares of stock at a stipulated price. A detachable warrant is one that may be sold separately from the package with which it may have originally been issued.

discount rate The interest rate that the Federal Reserve charges a bank to borrow funds when a bank is temporarily short of funds.

dividend payout ratio Percentage of earnings paid out as dividends.

dividend policy An established guide for the firm to determine the amount of money it will pay as dividends.

dividend rights A shareholder’s rights to receive per-share dividends identical to those other shareholders receive.

embedded derivative Implicit or explicit terms in a contract that affect some or all of the cash flows of a contract in a manner similar to a freestanding derivative instrument.

embedded option An option that is part of the structure of a bond that provides either the bondholder or issuer the right to take some action against the other party, as opposed to a bare option, which trades separately from any underlying security.

equity Represents ownership interest in a firm. Also the residual dollar value of a futures trading account, assuming it is liquidated at the going market price.

equity instrument Any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities.

equity options Securities that give the holder the right to buy or sell a specified number of shares of stock, at a specified price for a certain limited time period.

equity swap A swap in which the cash flows that are exchanged are based on the total return on some stock market index and an interest rate—either a fixed rate or a floating rate.

exchange The marketplace in which shares, options, and futures on stocks, bonds, commodities, and indexes are traded. Principal U.S. stock exchanges are the New York Stock Exchange (NYSE), the American Stock Exchange (AMEX), and the National Association of Securities Dealers Automated Quotation System (NASDAQ).

exchange rate risk Also called currency risk, the risk of an investment’s value changing because of currency exchange rates.

ex-dividend This means the price does not include dividend. The buyer of shares when they are quoted ex-dividend is not entitled to receive a declared dividend.

ex-dividend date The first day of trading when the seller, rather than the buyer, of a stock will be entitled to the most recently announced dividend payment. A stock that has gone ex-dividend is marked with an “x” in listings on that date.

exercise price The price at which an underlying instrument may be bought, sold, or settled upon exercise of an option.

ex-rights In connection with a rights offering, shares of stock that are trading without the rights attached.

ex-rights date The date on which a share of common stock begins trading without the rights.

fair market price Amount at which an asset would change hands between two parties, both having knowledge of the relevant facts. Also referred to as fair value.

FASB Since 1973, the Financial Accounting Standards Board (FASB) has been the designated organization in the private sector for establishing standards of financial accounting and reporting (U.S. GAAP). These standards govern the preparation of financial reports. They are officially recognized as authoritative by the Securities and Exchange Commission (SEC) and the American Institute of Certified Public Accountants (AICPA). Such standards are essential to the efficient functioning of the economy since investors, creditors, auditors, and others rely on credible, transparent, and comparable financial information.

FIFO (f irst-in-f irst-out) A valuation method that assumes the assets produced or acquired first are sold or used first, meaning that the assets that are remaining in inventory are matched to the assets that are most recently purchased or produced.

financial asset Any asset that is (1) cash; (2) an equity instrument of another entity; (3) a contractual right to receive cash or another financial asset from another entity or to exchange financial assets/financial liabilities with another entity under conditions that are potentially favorable to the entity; or (4) a contract that will or may be settled in the entity’s own equity instruments, and is either a non-derivative for which the entity is or may be obliged to receive a variable number of the entity’s own equity instruments, or a derivative that will or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of the entity’s own equity instruments.

financial instrument Any contract that gives rise to both a financial asset of an entity and a financial liability or equity instrument of another entity.

financial liability A liability that is a contractual obligation to deliver cash or another financial asset to another entity; or to exchange financial instruments with another entity under conditions that are potentially unfavorable to the entity; or a contract that will or may be settled in the entity’s own equity instruments, and is either a non-derivative for which the entity is or may be obliged to deliver a variable number of the entity’s own equity instruments, or a derivative that will or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of entity’s own equity instruments.

forward contract A cash market transaction in which delivery of the commodity is deferred until after the contract has been made. It is not standardized and is not traded on organized exchanges. Although the delivery is made in the future, the price is determined at the initial trade date.

forward rate The foreign exchange rate used in an agreement to exchange, at a specified future date, a specified amount of a commodity, currency, or other asset.

functional currency The currency of the primary economic environment in which an entity operates.

futures contract A contractual agreement, generally made on the trading floor of a futures exchange, to buy or sell a particular commodity or financial instrument at a predetermined price in the future.

hedge fund A fund that may employ a variety of techniques to enhance returns, such as both buying and shorting stocks and a host of other innovative financial instruments.

hedging A strategy designed to reduce investment risk using derivative products. A hedge can help lock in existing profits. The purpose of hedging is to reduce the volatility of a portfolio by reducing the risk of loss.

hedging instrument A strategy used in risk management whereby an entity seeks to reduce or eliminate financial risks by entering into transactions that offset the risks. To deploy hedge accounting, special accounting rules may be used if specific hedge effectiveness and other criteria are met.

hedged item An asset, liability, firm commitment, highly probable forecast transaction, or net investment in a foreign operation that (1) exposes the entity to risk of changes in fair value or future cash flows and (2) is designated as being hedged.

hedge effectiveness The degree to which changes in the fair value or cash flows of the hedged item that are attributable to a hedged risk are offset by changes in fair value or cash flows of the hedging instrument.

held-to-maturity asset Financial assets that have fixed or determinable payments and a fixed maturity and that an entity has the positive intent and ability to hold until maturity.

IASB International Accounting Standards Board; standard-setting body responsible for the development of International Financial Reporting Standards (IFRSs), permitted or required by over 100 countries across the world.

IFRS International Financial Reporting Standards, the body of accounting standards and interpretations issued or endorsed by the IASB. IFRS is a summation of generally accepted accounting principles (GAAP) in many countries and on many stock exchanges around the world.

impairment A situation where the estimated recoverable amount of a financial asset has declined below its carrying amount.

income statement A statement showing the revenues, expenses, and income being the difference between revenues and expenses of an entity during a defined period of time.

initial margin requirement When buying securities on margin, the proportion of the total market value of the securities that the investor must pay for in cash. The regulatory authorities set initial margin requirements, but individual brokerage firms are free to set higher requirements. In futures contracts, initial margin requirements are set by the exchange.

initial public offering (IPO) A company’s first sale of stock to the public. Securities offered in an IPO are often those of small companies seeking outside equity capital and a public market for their stock.

interest The cost of borrowing money, expressed as a percentage rate over a period of time.

in-the-money Used to describe a put option that has a strike price higher than the underlying spot price, or a call option with a strike price lower than the underlying spot price. For example, if the March ABC spot contract is trading at $7, a March call with a strike price of $6 would be considered in-the-money by $1.

intrinsic value The positive difference between the current price of the underlying and the exercise price in those situations when an option is in-the-money.

LIBOR The London Interbank Offered Rate; the rate of interest that major international banks in London charge each other for borrowings. Most of the variable interest rates are based on spreads off of LIBOR.

LIFO (last in, first out) The last in, first out inventory valuation methodology; a method of valuing inventory that uses the cost of the most recent item in inventory first.

liquidity A market is liquid when it has a high level of trading activity, allowing buying and selling with minimum price disturbance.

liquidity risk The risk that an entity will encounter difficulty in meeting obligations associated with financial liabilities.

management fee An investment advisory fee charged by the financial advisor to a fund based on the fund’s assets under management, but sometimes determined on a sliding basis that declines as the assets under management of the fund increases.

margin The difference between the market value of a stock and the loan a broker makes. Margin allows investors to buy securities by borrowing money from a broker.

margin account An account in which stocks are purchased for a combination of cash and a loan. The loan in the margin account is collateralized by the stock and, if the value of the stock drops significantly, the owner will be asked to bring in additional margin; otherwise a portion of the stock will be liquidated.

margin call A demand for additional funds because of adverse price movement.

marked-to-market An arrangement whereby the unrealized profits or losses on a futures contract are recorded each day.

market capitalization The total dollar value of all outstanding shares, computed as shares multiplied by current market price. It is a measure of the corporation’s size.

monetary item Money held and assets to be received or liabilities to be paid in fixed or determinable amounts of money.

mutual fund A pool of money that is managed by an investment company.

NASDAQ National Association of Securities Dealers Automatic Quotation System is an electronic quotation system that provides price quotations to market participants about the more actively traded common stock issues in the over-the-counter (OTC) market.

net asset value (NAV) The value of a fund’s investments. For a mutual fund or hedge fund, the net asset value per share represents the fund’s market value, subject to a possible sales or redemption charge.

net assets The difference between total assets on the one hand and current liabilities and non-capitalized long-term liabilities on the other hand.

net income A company’s total earnings, reflecting revenues adjusted for costs of doing business, depreciation, interest, taxes, and other expenses.

net present value (NPV) The present value of the expected future cash flows less the cost.

notional amount An amount of currency, number of shares, a number of units of weight or volume, or other units specified in a derivative contract.

option The right, but not the obligation, to buy or sell an asset at a set price on or before a given date.

options contract A contract that, in exchange for the option price, gives the option buyer the right, but not the obligation, to buy (or sell) a financial asset at the exercise price from (or to) the option seller within a specified time period, or on a specified date (expiration date).

out-of-the-money option A put option is out-of-the-money if the strike price is less than the market price of the underlying security. A call option is out-of-the-money if the strike price is greater than the market price of the underlying security.

P/E ratio A valuation ratio of a company’s current share price compared to its per-share earnings. For example, if a company is currently trading at $5 a share and earnings over the past 12 months were $1 per share, the P/E ratio for the stock would be 5 ($5/$1).

preferred shares Preferred shares give investors a fixed dividend from the company’s earnings and preferred shareholders get paid before common shareholders.

premium The price of an option contract; in futures trading, the amount by which the futures price exceeds the price of the spot commodity.

put option An option contract that gives its holder the right (but not the obligation) to sell a fixed number of shares at a fixed price within a given time frame.

quotation The bid and offered prices at which a dealer is willing to buy or sell.

record date Date by which a shareholder must officially own shares in order to be entitled to a dividend.

redeemable Eligible for redemption under the terms of the contract.

regular-way purchase or sale A purchase or sale of a financial asset under a contract whose terms require delivery of the asset within the time frame established generally by regulation or convention in the marketplace concerned.

secondary market The market where securities are traded after they are initially offered in the primary market. Most trading is done in the secondary market.

settlement date The date on which payment is effected to settle a trade. For stocks traded on U.S. exchanges, settlement is currently three business days after the trade. For over-the-counter trades, this will vary for different products.

settlement price The price determined by the exchange, usually the closing rate on any given date, which is used to calculate gains and losses in derivatives markets. Settlement prices are used to determine gains, losses, margin calls, and invoice prices for deliveries.

shareholders’ equity A company’s total assets minus total liabilities; also known as a company’s net worth.

short position When a person sells stocks he does not yet own, a short position is created. Shares must be borrowed before the sale to make good delivery to the buyer. Eventually, the shares must be bought to close out the transaction.

spread The gap between bid and ask prices of a stock or other security.

stock Ownership of a corporation, conveyed in shares which represent a piece of the corporation’s assets and earnings.

stock dividend When the payment of a corporate dividend is in the form of stock rather than cash, it is known as a stock dividend. The stock dividend may be additional shares in the company, or it may be shares in a subsidiary being spun off to shareholders. Stock dividends, unlike a cash dividend, are not taxed until sold.

stock split This occurs when a firm issues new shares of stock but in turn lowers the current market price of its stock to a level that is proportionate to presplit prices. For example, if ABC trades at $400 before a two-for-one split, after the split it will trade at $200 and holders of the stock will have twice as many shares as they had before the split.

time value The difference between the total market value of an option and its intrinsic value.

trade date The date on which a trade occurs. Trades generally settle two to 15 business days after a trade date depending upon the security traded. With stocks, settlement is generally three business days after the trade.

transactions costs The time, effort, and money necessary to complete a transaction, including such things as commission fees and the cost of physically moving the asset from seller to buyer.

underlying The “something” that the parties agree to exchange in a derivative contract. In the case of an options contract, for example, the underlying is the security subject to being purchased or sold upon exercise of an option contract. For example, Microsoft stock is the underlying security to Microsoft options.

withholding tax A tax, levied by a country of source, on income paid, usually on dividends remitted to the home country of the firm operating in a foreign country; tax levied on dividends paid abroad.

writer The seller of an option, who issues the option and consequently has the obligation to sell the asset (if a call) or to buy the asset (if a put) on which the option is written if the option buyer exercises the option.

written option An option contract for which a net premium is received.