CAC 40 index
Paris-based stock market index of the leading 40 French shares.
Call
Requirement for an investor to make additional payments on specified dates in order for an investment (e.g. a partly paid stock or an optional ownership) to be fully paid up.
Call option
Option which gives the purchaser the right, but not the obligation, to buy an asset at a specified price either on an agreed date (European option) or on or before an agreed date (American option). This date is known as the expiration date. (See also put option.)
Callable bond
Bond which can be redeemed before maturity at the option of the issuer.
Cap
Interest rate contract where the purchaser receives from the seller, at the end of each period prior to expiry of the contract, the difference between current interest rates and a strike interest rate, should interest rates rise above the strike. For example, agreement to receive money for each month during which LIBOR exceeds 5%. (See also floor.)
Capital adequacy
Firms conducting investment business are required to have sufficient funds of their own. The European Union Capital Adequacy Directive, which sets minimum levels of capital for UK financial service companies, came into effect on 1 January 1996.
Capital asset pricing model (CAPM)
Economic model for valuing assets. The simplest version states that the expected excess return of a security over a risk-free asset will be exactly in proportion to its beta.
Capital flight
See flight to quality.
Capital gains tax (CGT)
Tax levied upon the sale of an asset, based on the increase in its price since purchase. Tax-approved UK pension funds are exempt from CGT.
Capital growth
Appreciation in the capital or market value of an investment, as opposed to income (e.g. dividends) which may be received from the investment from time to time.
Capital market
Any financial market upon which securities are traded.
Capitalisation issue
See bonus issue.
Capitalisation-weighted index
Index where the weightings applied to each component security are based on their relative market capitalisations. (See also equal-weighted index.)
CAPM
See capital asset pricing model.
CAPS
See Mellon Analytical Services.
Carry
See asset carry.
Carry trade
Practice of borrowing in currencies with low associated yields and lending in high-yielding currencies. If currency markets are efficient, there should be no gains to the trader, since the yield differential will be offset by changes in the relative exchange rates.
Carried interest
Mechanism by which a private equity manager shares in the profits achieved in a private equity fund or investment. Typically, the carried interest will be around 20% of the net gains achieved.
Cash flow risk
Risk that an investor scheme is forced to sell assets to meet liabilities. This can occur when the level of cash flow required to meet benefit payments exceeds the contribution and investment income.
CBO
Collateralised bond obligation. See collateralised debt obligation.
Central clearing
Process designed to reduce counterparty risk which is present in bilateral over-the- counter derivative trades by clearing with a single central counterparty.
Central Counterparty Clearing House (CCP)
An organisation that helps facilitate trading done in derivatives and equities markets. There are two main processes that are carried out by CCPs: clearing and settlement of market transactions.
Certificate of deposit (CD)
Tradable certificate showing that a particular sum has been deposited with a bank for a certain time at a certain interest rate. CDs are non-interest bearing and are quoted at a discount to their par redemption value.
CDO
See collateralised debt obligation.
CFA
See Chartered Financial Analyst.
CFA Institute
International non-profit organisation composed of more than 90,000 individual voting members and 136 non-voting member societies whose mission is to set a higher standard of professional excellence for the investment profession. Individual members either hold the CFA designation or are active in the investment business and agree to abide by the CFA Institute ethical requirements. The CFA Institute administers the CFA Examination and is responsible for the Global Investment Performance Standards (GIPS™). Previously called the Association for Investment Management and Research (AIMR). (See also GIPS, UKIPS.)
CGT
See capital gains tax.
Chartered Financial Analyst (CFA)
Qualification awarded by the CFA Institute. Its curriculum develops and reinforces fundamental knowledge of investment principles. Examinations measure a candidate’s ability to apply these principles at a professional level. (See also CFA Institute.)
Chartism
Form of technical analysis where charts are used to identify trends and study movements in share prices or financial and economic indicators, with the aim of predicting future (often short-term) changes in stock market prices.
Chinese wall
Separation of activities in a financial institution to prevent confidential and/or price-sensitive information from passing from one area to another. For example, it is normal practice for a financial services institution to separate corporate finance, stockbroking and fund management using Chinese walls.
Churning
Excessive trading of an investor’s portfolio. Sometimes used unethically to generate extra commissions.
CIF
See common investment fund.
Circuit breaker
Stock exchange rule or other action designed to maintain orderly trading during periods of market, for example by preventing computer-generated trades from sending the market into a downward spiral.
Clean fees
All-inclusive fund management fees, to which no additional charges (e.g. custody, administration) will be added.
Cleantech
Products, services and processes geared towards reducing or eliminating the environmental impact of a means of production. May include investments in agriculture, energy, manufacturing, materials, technology, transportation and water.
Clearing house
Institution positioned between two respective counterparties and responsible for the trade settlement, thus removing counterparty risk from both parties.
Closed-end fund
Collective investment schemes that issue a fixed number of shares which are then usually traded on a stock exchange. The price of each share is determined by supply and demand in the marketplace. The share price may stand at either a discount or premium to the net asset value of the underlying investments. Investment trusts are examples of closed-end funds. (See also open-ended funds.)
Closet indexing
Running of an “active” portfolio by an “active” fund manager where the fund’s holdings are insufficiently different from the composition of the index for the fund’s performance to deviate significantly from the index.
Closing price
Price at which the final market transaction in a security took place on a particular business day.
Coattail investing
Trading strategy in which investors duplicate the performance of a successful (and usually well-known) investor by copying his or her trades as soon as they are made public. This is a risky strategy, as there is a time delay between when the successful investor’s trades occur and when they are made public.
Collar hedge
Investment strategy obtained through a combination of put and call options. This option-based strategy results in stabilised portfolio returns by obtaining protection against a major decline in portfolio value in exchange for the sacrifice of part of the portfolio’s appreciation in a major rally.
Collateral
Assets placed on deposit as security for an open position (e.g. loan, swap, short sale), which may be used to offset the potential loss by a counterparty should the first party default on its obligation.
Collateralised debt obligation (CDO)
One of a series of bond-type investments, backed by a pool of assets, such as loans or mortgages, which can be tailored to match one or more investor’s requirements in terms of credit rating, risk, duration, timing of payments, etc.
Collateralised mortgage obligation (CMO)
Security that pools together mortgages and separates them into tranches paying different rates of interest, depending on their terms to maturity. In most CMOs, coupons are not paid on the final tranche until all other tranches have been redeemed (the coupons are added to the capital outstanding in the interim). Such a tranche is called an accretion bond, an accrual bond or a Z-bond.
Combined Code
Code of good practice in corporate governance in the UK, set out in the Cadbury, Greenbury, and Hampel and Higgs reports. Among other things, the Code refers to institutional shareholders, encouraging them to take responsibility for voting and, where appropriate, to enter into dialogue with the companies in which they invest.
Commercial mortgage-backed security (CMBS)
Mortgage-backed security collateralised by commercial rather than residential mortgage loans. Unlike residential MBSs, CMBSs are not usually subject to prepayment risk, as most underlying loans do not permit prepayment without substantial penalties.
Commercial paper
Unsecured short-term debt issued by banks, corporations and other borrowers.
Commingled fund
See pooled fund.
Commission
Fee paid to a stockbroker for buying or selling a security, usually calculated as a percentage of the value of the security. Commissions vary across markets and between brokers. (See also soft commission.)
Commission recapture
Facility whereby a network of brokers agrees to rebate a portion of commissions to clients. This is usually managed by a third party that leverages collective clients’ buying power.
Commodity
Any raw material — examples include oil, gold and cattle.
Common investment fund (CIF)
Pool of assets from more than one entity invested under one investment vehicle.
Common stock
US name for ordinary shares.
Compound interest
Method of accumulating interest, where interest is paid on both the initial investment and the interest accruing during the period.
Compound option
Option where the underlying asset is itself an option.
Compound rate of return
Total return calculated by multiplying returns for different periods.
Compressed valuations
Market conditions in which relative pricing differences between the highest- and lowest-priced segments of a stock market are smaller than the long-term average. Typically favours growth investors, since faster-growing stocks will be trading at a lower-than-normal premium to the market. Value investors, on the other hand, will struggle to find stocks trading at deep discounts to the market.
Concentrated portfolio
Portfolio with a small number of securities. This relative lack of diversification aims to achieve higher performance than the benchmark but with a commensurate increase in risk.
Consensus fund
Form of passive management that aims to match closely the average return achieved by a specified group of actively managed portfolios. These funds usually operate by continually adjusting their assets to bring them into line with the average asset mix of the specified portfolios and then by investing, within each area, in securities that represent the market index.
Consideration
Something of value, such as money or personal services, given by one party to another in exchange for an act or promise.
Consolidation
Process where a company increases the nominal value of its shares, and decreases the number of shares in issue by combining multiple denominations. For example, consolidating five shares of 5p each into one share of 25p.
Constraints
Limits or restrictions imposed on an investment manager in relation to particular shares, sectors or markets for various reasons, for example, risk reduction or ethical considerations.
Consumer Price Index (CPI)
US measure of price inflation.
Consumer Prices Index (CPI)
Measure of price inflation in the UK. Differs from the RPI in the particular households it represents, the range of goods and services included, and the way the index is constructed. Compiled by the Office for National Statistics and used for the UK government’s inflation target. The UK government’s name for the Harmonised Index of Consumer Prices, a standardised European-wide measure of inflation. (See also Retail Prices Index.)
Contango
In a forward contract, the situation where the price of a commodity for future delivery exceeds the spot price of the commodity. The difference is considered to indicate the cost of holding the physical asset for future delivery. (See also backwardation.)
Contract note
Written record of an agreement to buy or sell securities.
Contrarian
Investor who takes a position in the market contrary to that of the majority.
Conventional bond
Bond where the coupon and principal payments are fixed.
Convertible bond
Bond which, under certain conditions, the owner can opt to convert into another security, normally an ordinary share.
Convexity
Measure of the way a bond’s duration changes in response to a change in interest rates. Positive convexity is evidenced when the proportional change in a bond’s duration is greater than the proportional decrease in interest rates, and vice versa for negative duration.
Core holding
Security or asset which is considered to be a long-term holding in a portfolio and, as such, is less likely to be actively traded. They are often high-quality securities with a history of fairly steady performance.
Core/satellite
Generally, the partitioning of a plan’s assets between a core portfolio of lower risk holdings (which may be managed passively) and one or more actively managed (satellite) portfolios.
Corporate bond
Bond issued by a corporation (as opposed to a government) promising regular payments on a specified date or range of dates and a final capital payment at redemption.
Corporate governance
Means by which shareholders govern the management of a company through the use of voting powers. Also used more generally with regard to the systems by which boards of directors are composed, and companies are directed and controlled.
Corporate social responsibility
Initiative to assess and take responsibility for a company’s effects on the environment and impact on social welfare. This goes beyond the environmental measures required by law or by environmental protection groups.
Correlation coefficient
Measure of the interdependence of two or more variables, for example, the returns recorded by two stock markets. A correlation coefficient can range from -1 (inverse relationship) to +1 (perfect correlation — change in variables will be identical). A correlation coefficient of 0 indicates the absence of a relationship between the variables.
Counterparty risk
Risk that the other party in a financial arrangement defaults on its contractual obligations. For example, in a swap, where interest rates increase, the fixed rate payer in the agreement is at risk that the counterparty (the floating rate payer) fails to deliver the increased interest payment.
Country allocation
Integral part of the asset allocation process that selects desired weightings in particular geographic regions.
Country risk
Risk attached to investing in a given country that relates to the country, for example, political and economic risks rather than other factors more specific to the investment in question.
Coupon
Interest rate payment (usually six-monthly) on a bond.
Covenant (bond)
Provisions within a borrowing agreement describing the obligations of a bond issuer to protect the interests of the bondholders. Affirmative covenants require the borrower to take certain actions (e.g. retain a certain debt to equity ratio). Negative covenants prohibit the borrower from certain actions (e.g. pay out too high dividends). The breach of covenant might cause the default of the bond.
Covenant (pension fund)
Ability and willingness of the sponsor to make good any shortfall in a scheme’s funding. A strong covenant reflects a financially strong sponsoring company, which can be relied upon to rectify funding shortfalls in the pension fund should they emerge. This imparts a degree of investment flexibility and freedom lacking for a pension fund with a weaker covenant from its plan sponsor.
Covenant (property)
Commonly used in property investment to refer to the quality of a tenant. A tenant with a good covenant is of high quality and unlikely to break the terms of the agreement, for example, the government or a government agency. The covenant also sets out the obligations of tenant and landlord.
Coverage
Proportion of a portfolio’s benchmark that is actually held in the portfolio, measured either by market capitalisation or number of stocks. Also refers to the researching of a particular stock by an analyst, who will issue reports and recommendations to fund managers.
Covered option
Option where the writer owns the underlying asset (of a call option) or holds cash of equal value to the strike value of the underlying asset (for a call option).
CPI
See Consumer Price Index (US measure of price inflation) or Consumer Prices Index (UK measure).
Credit
Debt issued by non-government bodies.
Credit crunch
Describes the global financial crisis of 2008/early 2009 which was driven by a chronic lack of liquidity (credit) in financial markets across the world.
Credit default swap
Contract between two parties who agree to exchange payments based on a contingency residing with a third party. Typically, the protection buyer will make periodic payments to the protection seller, who in turn agrees to make a contingent payment to the buyer upon the occurrence of a credit event on the third party’s asset (e.g. the third party defaulting on a loan repayment).
Credit rating
Rating given by a credit-rating agency, based on its view of the financial strength of a borrower and the likelihood of default (i.e. inability to meet debt obligations). The highest rating is usually AAA, and the lowest is D.
Credit risk
Risk of suffering loss due to another party defaulting on its financial obligations. Also known as default risk.
Credit spread
Difference in the yield available on a corporate bond compared to a government bond. Credit spreads will generally be higher for companies with lower credit ratings. (See also swap spread.)
Credit Support Annex (CSA)
Provides credit protection by setting forth the rules governing the mutual posting of collateral. CSAs are used in documenting collateral arrangements between two parties that trade privately negotiated (over-the-counter) derivative securities. A clean CSA is one that permits only GBP cash and UK gilts to be posted as collateral in GBP-denominated transactions.
Credit Support Deed (CSD)
Annex to an ISDA Master Agreement, drawn up under English law, which allows parties to the agreement to mitigate their credit risk by requiring the out-of-the- money party to post collateral (usually cash, government securities or highly rated bonds) corresponding to the amount which would be payable by that party were all the outstanding transactions under the relevant ISDA Master Agreement terminated. The equivalent agreement under New York law is known as the Credit Support Annex (CSA).
CREST
Real-time settlement system for trading of UK and international shares, UK government and other corporate securities. The system is operated by CRESTCo.
Crossing
Transactions undertaken directly with other investors executing the opposite trade, to minimise spread costs and market impact. Internal crossing opportunities are those where the investors are simultaneously trading with a transition management firm. External crossing involves actively seeking out market participants who are executing trades in the opposite direction.
Cum dividend
Security where the purchaser is entitled to receive the next coupon or dividend. The opposite of ex-dividend.
Currency hedging
Strategy designed to reduce or eliminate exchange rate risk in a portfolio of
non-domestic assets through the use of currency futures/forwards or by the purchase, sale or borrowing of the exposed currency.
Currency overlay
Investment management technique aimed solely at managing an investor’s overseas currency exposure, either actively or passively.
Currency risk
Risk of incurring losses in the value of overseas investments as a result of movements in international exchange rates. Can also refer to the additional volatility caused by exposure to assets in foreign currencies. Also known as exchange rate risk.
Currency swap
Effectively the exchange of two sets of cash flows in different currencies. Involves the purchase/sale of a currency in the spot market against the simultaneous purchase/sale of the same amount of the currency in the forward market. The agreed payment in each currency changes hands on each swap date (unlike an interest rate swap, where the payments are netted off against each other).
Curve risk
Risk that changes the shape and/or slope of the yield curve result in mismatched performance between an actual bond portfolio and its benchmark, or between assets and liabilities where these have different durations.
Cushion
In portfolio insurance products, the difference between the cost of buying the zero coupon bond and the principal amount guaranteed. (See also portfolio insurance.)
Custodian
Organisation responsible for the safekeeping of assets, income collection and settlement of trades for a portfolio; independent from the asset management function.
Cyclical stock
Security which is sensitive to movements in the economic cycle — generally performs well in periods of falling interest rates or growth but poorly during an economic downturn. For example, financial stocks and capital goods. (See also defensive stock.)
Cyclical trend
Recurring movements in prices or interest rates, usually linked to stages in the business cycle.
Calendar Spread
See Interdelivery Spread and Horizontal Spread.
Call Option
An option that gives the buyer the right, but not the obligation, to purchase (go “long”) the underlying futures contract at the strike price on or before the expiration date.
Canceling Order
An order that deletes a customer’s previous order.
Carrying Charge
For physical commodities such as grains and metals, the cost of storage space, insurance, and finance charges incurred by holding a physical commodity. In interest rate futures markets, it refers to the differential between the yield on a cash instrument and the cost of funds necessary to buy the instrument. Also referred to as cost of
carry or carry.
Carryover
Grain and oilseed commodities not consumed during the marketing year and remaining in storage at year’s end. These stocks are “carried over” into the next marketing year and added to the stocks produced during that crop year.
Cash Commodity
An actual physical commodity someone is buying or selling, e.g., soybeans, corn, gold, silver, Treasury bonds, etc. Also referred to as actuals.
Cash Contract
A sales agreement for either immediate or future delivery of the actual product.
Cash Market
A place where people buy and sell the actual commodities, i.e., grain elevator, bank, etc. See Spot and Forward Contract.
Cash Settlement
Transactions generally involving index-based futures contracts that are settled in cash based on the actual value of the index on the last trading day, in contrast to those that specify the delivery of a commodity or financial instrument.
Certificate of Deposit (CD)
A time deposit with a specific maturity evidenced by a certificate.
Charting
The use of charts to analyze market behavior and anticipate future price movements. Those who use charting as a trading method plot such factors as high, low, and settlement prices; average price movements; volume; and open interest. Two basic price charts are bar charts and point-and-figure charts. See Technical Analysis.
Cheap
Colloquialism implying that a commodity is underpriced.
Cheapest to Deliver
A method to determine which particular cash debt instrument is most profitable to deliver against a futures contract.
Clear
The process by which a clearinghouse maintains records of all trades and settles margin flow on a daily mark-to-market basis for its clearing member.
Clearing Corporation
An independent corporation that settles all trades made in a market, acting as a guarantor for all trades cleared by it, reconciles all clearing member firm accounts each day to ensure that all gains have been credited and all losses have been collected, and sets and adjusts clearing member firm margins for changing market conditions. See Clearinghouse.
Clearing house
An agency or separate corporation of an exchange/market that is responsible for settling trading accounts, clearing trades, collecting and maintaining margin monies, regulating delivery, and reporting trading data. Clearinghouses act as third parties to all traded contracts acting as a buyer to every clearing member seller and a seller to every clearing member buyer.
Clearing Margin
Financial safeguards to ensure that clearing members (usually companies or corporations) perform on their customers’ open contracts. Clearing margins are distinct from customer margins that individual buyers and sellers of contracts are required to deposit with brokers. See Customer Margin.
Clearing Member
A member of an exchange clearinghouse. Memberships in clearing organizations are usually held by companies. Clearing members are responsible for the financial commitments of customers that clear through their firm.
Closing Price
See Settlement Price.
Closing Range
A range of prices at which buy and sell transactions took place during the market close.
Commission Fee
A fee charged by a broker for executing a transaction. Also referred to as brokerage fee.
Commodity
An article of commerce or a product that can be used for commerce. In a narrow sense, products traded on an authorized commodity exchange. The types of commodities include agricultural products, metals, petroleum, foreign currencies, and financial instruments and indexes, to name a few.
Commodity Pool
An enterprise in which funds contributed by a number of persons are combined for the purpose of trading futures contracts or commodity options.
Commodity Pool Operator (CPO)
An individual or organization that operates or solicits funds for a commodity pool.
Commodity Trading Adviser (CTA)
A person who, for compensation or profit, directly or indirectly advises others as to the value or the advisability of buying or selling futures contracts or commodity options. Advising indirectly includes exercising trading authority over a customer’s account as well as providing recommendations through written publications or other media.
Computerized Trading Reconstruction (CTR) System
A computerized surveillance program that pinpoints in any trade the traders, the contract, the quantity, the price, and time of execution to the nearest minute.
Concurrent Indicators
See Lagging Indicators.
Consumer Price Index (CPI)
A major inflation measure computed by the U.S. Department of Commerce. It measures the change in prices of a fixed market basket of some 385 goods and services in the previous month.
Contracts For Difference (CFD’s)
A financial instrument which is an agreement to transact merely on the value of an underlying asset (commodity, currency, stock/stock index, bond or any other such asset) where the transaction is marked to market and settled based on the value of the underlying asset by paying/receiving any accrued profits/losses (‘’cash settled’’) by the two counterparties to the contract. No physical delivery based settlement is a part of such contracts.
Contract Grades
See Deliverable Grades.
Contract Month
See Delivery Month.
Contract Size
Also referred to as ‘’Lot Size’’. It is the standardized number of units of an underlying asset/instrument that forms the minimum transaction size in a given asset/instrument/ product, when transacting on a financial market/exchange/dealer network/ mercantile facility.
Controlled Account
See Discretionary Account.
Counterparty
An individual or entity with which a transaction is executed.
Convergence
A term referring to cash and futures prices tending to come together (i.e., the basis approaches zero) as the futures contract nears expiration.
Conversion Factor
A factor used to equate the price of T-bond and T-note futures contracts with the various cash T-bonds and T-notes eligible for delivery. This factor is based on the relationship of the cash-instrument coupon to the required 8 percent deliverable grade of a futures contract as well as taking into account the cash instrument’s maturity or call.
Cost of Carry (or Carry)
See Carrying Charge.
Coupon
The interest rate on a debt instrument expressed in terms of a percent on an annualized basis that the issuer guarantees to pay the holder until maturity.
Crop (Marketing) Year
The time span from harvest to harvest for agricultural commodities. The crop marketing year varies slightly with each agricultural commodity, but it tends to begin at harvest and end before the next year’s harvest, e.g., the marketing year for soybeans begins September 1 and ends August 31. The futures contract month of November represents the first major new-crop marketing month, and the contract month of July represents the last major old-crop marketing month for soybeans.
Crop Reports
Public/Private reports compiled on various agricultural commodities that are released throughout the year. Information in the reports includes estimates on planted acreage, yield, and expected production, as well as comparison of production from previous years.
Cross-Hedging
Hedging a cash commodity using a different but related futures contract when there is no futures contract for the cash commodity being hedged and the cash and futures markets follow similar price trends (e.g., using soybean meal futures to hedge fish meal).
Crush Spread
The purchase of soybean futures and the simultaneous sale of soybean oil and meal futures. See Reverse Crush.
Current Yield
The ratio of the coupon to the current market price of the debt instrument
Customer Margin
Within the industry, financial guarantees required of both buyers and sellers of contracts to ensure fulfillment of contract obligations. Brokers are responsible for overseeing customer margin accounts. Margins are determined on the basis of market risk and contract value. Also referred to as performance-bond margin. See Clearing Margin.
