Financial Terms You Need To Know!

When speaking about finances, the vocabulary can sound overly complicated and intimidating. But on "The Early Show" Tuesday, Pam Krueger, co-host and creator of PBS' "Money Track," taught Financial Vocabulary 101, filling viewers in on a few key terms. Once you know how to talk about money, you might feel more comfortable tackling your finances. ASSET ALLOCATION This simply refers to the way you choose to divide your money among different assets. You can choose to divide (allocate) your money (assets) between any number of things: real estate, stocks, bonds, even having cash at the ready -- "cash on-hand." Pam says it's important, if you can, to decide on your own personal asset allocation. Don't rely on your financial counselor to know where to allocate your assets. You should have an idea where you want to put your money. In a sentence: "My asset allocation is half going in the stock market, and half toward a down payment on my house." DIVERSIFICATION The verb is "diversify." When people discuss diversifying their money, they mean lowering the risk of their investments by spreading them out among different categories. For instance, a heavy investment in real estate would be less risky if that heavy investment were spread among stocks, bonds, mutual funds AND real estate. Diversification lowers the risk of any one investment. So, if your investment counselor starts to talk about making sure to diversify your portfolio, they are simply talking about spreading your money among different types of investments to lower your financial risk in each one. In a sentence: "My financial adviser says my investments are in trouble unless I look into seriously diversifying my portfolio." EQUITIES The singular is equity or equity investment. Equity, simply put, is another name for "stock." Owning equity means that you own a tiny piece of a company in the form of a stock. You hold these in anticipation of making money should the stock or equity rise in value. The price of an equity, or stock, is decided simply by supply and demand. In a sentence: "It looks as if the equities market is really going to take off." MUTUAL FUND A mutual fund is a collective investment vehicle that pools money from many investors and spreads it among stocks, bonds, short-term money markets, and/or other securities. These funds are another good way of minimizing your investment risk, since your money is invested with other people's money. You're not the lone investor AND there is a money manager heading the fund to make sure the portfolio of the mutual fund is diverse. Again, mutual funds might be a safer way to invest than most. In these types of funds, you're heavily dependent upon your manager. He or she makes the decisions on the pool of money from you and other investors will go. You're putting trust in that person, so make sure you feel comfortable with that. In a sentence: "Since I know nothing about the market, my investment counselor suggested mutual funds to lower my risk." INDEX FUND A type of mutual fund that tracks popular stock market indexes. For instance, you've probably heard of the S & P 500. This is made up of 500 stocks that are consistent top performers. So, an index fund that follows the S & P 500 means you're automatically invested in all 500 of those stocks. Again, index funds will minimize your risk as an investor. They AUTOMATICALLY put your money in whatever stock market index your index fund follows. If there are 100 stocks in your index, you now have tiny investments in 100 companies. In a sentence: "Apparently, the S & P 500 rarely goes down, so if there's an index fund tracking it, that's for me!" DERIVATIVE A contract or agreement whose price or value on any given day is dependent and tied to the price of another underlying asset: stocks, bonds, real estate, oil, and gas -- even the weather! In lots of cases, it winds up that you're betting on the future price or value of that underlying asset. For example, you can bet that the stock market will be higher in six months, and if it is, your derivative bet pays off. You're essentially placing a "win, place or show" bet, predicting whether you think whatever asset your derivative is based on will go up, down, or stay the same. In a sentence: "My broker says I should buy a stock option derivative, because he thinks the market will go up very soon and he wants me to place that bet." SUBPRIME This refers to the borrower who doesn't qualify for a mortgage under normal scrutiny. Therefore, a subprime loan is a risky loan. In fact, if you're looking for safe investments, you probably want to stay away from the word subprime completely. In a sentence: "Losses from the subprime mortgage sector spread throughout the world, triggering a global crisis." Copyright 2009 CBS. All rights reserved.