Complete Definitions of Key Concepts

INVESTING: The process of trying to earn additional money on capital already accumulated. Investing involves lengthy time frames and various types of risk, with results generally related to economic and political factors. Investing differs from gambling, which is also an attempt to earn money on accumulated capital, but subject to risk based on chance and typically decided over very short time frames.

LIQUID INVESTMENTS: Investments such as stocks and bonds that are easy to buy or sell in an organized market, typically with little time delay, small price variations from one transaction to the next, and low transaction costs. Illiquid investments such as real estate typically take a long time to sell and incur high transaction costs.

STOCKS: Stocks represent an ownership interest in a business. Investment returns derive primarily from price increases, and secondarily from income in the form of dividends. Stocks carry the risk of price declines, which can produce significant losses.

BONDS: Bonds represent a loan to a company or governmental entity for a specific period of time, also known as maturity. Investment gains come predominantly from income in the form of interest paid by the borrower. Bond prices can rise and fall prior to maturity, but typically with much less severe, or volatile, ups and downs than stock prices.

MUTUAL FUNDS: A way of investing in stocks and/or bonds that combines the capital of many investors into one investment vehicle, providing diversification and professional management.

ASSET ALLOCATION: The process of determining how much of your investment portfolio belongs in stocks --historically the higher risk-higher return asset class-- and how much belongs in bonds and cash equivalents --historically the lower risk-lower return asset classes. Despite the historical performance of an asset class, however, it is always possible that these results will not continue in the future. Appropriate allocations therefore depend on the gains needed to achieve specific investment objectives, the time frame available for investing, and the level of risk acceptable to achieve the investment objectives.

INDEX: A figure that represents the performance of some underlying set of data. Stock indexes include the Dow Jones Industrials (30 very large stocks), S&P 500 (500 large stocks), and NASDAQ Composite (1,000s of stocks). Bond indexes exist for various issuers and maturities. Indexes serve as benchmarks to compare the results of actual investments using a similar style or methodology.

INDEXED INVESTING: An investing approach that accepts the results of the index of choice, rather than trying to "beat" the index by actively picking certain stocks and/or bonds to the exclusion of others. Also referred to as "passive" investing, in contrast to "active investing."

RISK: Risk has several meanings in the investment area: 1) The possibility of not achieving an expected result; 2) a decline in the value of an investment; and 3) the range of price changes that, if severe enough, can cause the sale of investments at an inopportune time. Another type of risk is that the purchasing power of investments declines over time, either because of losses in value or because investment results fail to keep pace with inflation, defined as a decline in the purchasing power of money over time.

RISK-REWARD TRADEOFF: Investments with greater risk typically provide higher investment gains over time. The possibility of achieving these better results therefore requires a willingness to accept the risks associated with pursuing such results.