Bonds have an associated interest rate they'll pay after you buy them. Generally, the lower the rate, the safer the bond. A company rated lower by agencies such as Standard & Poor’s or Moody’s, or one running into financial trouble, typically pays a higher interest rate. Also, bonds’ prices and interest rates typically have an “inverse relationship”: When one goes up, the other usually goes down.
When a public company chooses to distribute profits to shareholders, it makes payments called dividends. Dividends aren't guaranteed, and their frequency can vary, though quarterly payments are common. Dividends are treated as regular income for tax purposes. Also, many companies allow investors to reinvest dividends in shares of stock rather than receive them as cash.
If you sell stocks, bonds, real estate or other investments for more than you paid, your profit is called a capital gain. To encourage people to stay with investments, the IRS charges a lower tax rate on capital gains than on regular income if you hold the investment for more than a year. If you sell an investment for less than you paid, you can deduct the difference as a capital loss on your taxes.
Liquidity describes how quickly you can turn an investment into cash. Stocks, bonds and other securities are relatively liquid because you can sell them to another investor and receive cash anytime markets are open. By contrast, a house is less liquid because the process of selling can take much more time. Note that just because something is liquid doesn't mean it's safer. While you may be able to sell your liquid assets more quickly, you could sell them at a loss.
Common stock market terms
A general term for the marketplace in which people buy and sell investments (e.g., stock market, bond market. commodity market), it sometimes refers to the exchanges on which those investments are sold. The market lists available securities and their selling prices, then connects buyers with sellers. The New York Stock Exchange, Nasdaq and London Stock Exchange are some of the major investment markets.
As an individual investor, you can't access markets directly. Instead, you work through a human or online broker. You open an account, deposit money and tell the broker which investments to make; the broker handles the transaction on the appropriate market.
Initial public offering
When a private company first raises money by offering shares of stock to the general public, it does so via an initial public offering (IPO). The now “public” company’s stock becomes listed on a market exchange, and those shares can be bought and sold in the “secondary” market.
Three agencies — Standard & Poor's, Moody's Investors Service and Fitch Ratings — are responsible for rating the financial strength of companies and their bonds. A company with the highest rating (AAA) is considered the most stable and likeliest to pay off all their bonds. Bonds with low ratings may offer a higher interest rate in return for greater risk that they will miss payments or even go bankrupt. Such bonds are known as “high-yield” or “junk” bonds.
Trades are the transactions investors make when they buy or sell securities to other investors. Professional traders handle these transactions on Wall Street, while amateur traders generally fall into two camps: “day traders” who make multiple transactions every day (often using sophisticated software to find opportunities to make even small but frequent profits) and…everyone else.
Buy and hold
With this investment strategy, rather than trading frequently, an investor will buy stocks and wait for them to grow over time. Since stock market prices have historically risen in value over time, this approach can be profitable while also reducing investment fees.
Normally, the economy grows over time. A recession is when the economy has negative growth for two quarters or more — over six months.
Bull and bear markets
A bull market is an extended period of rising investment values, often lasting years. A bear market is an extended period of investment losses. Historically bear markets have not been as long-lasting as the bull markets that follow them. Even so, during these stretches the right strategies can help protect your income.
Usually applied to the stock market, a correction occurs when prices fall at 10% from their previous high. The term usually refers to the market “correcting” its course when stocks are considered overpriced.
This is when stocks and other securities experience a sustained period of rising prices, typically after taking a big loss.