Understanding Stock Market Terms
Understanding Stock Market Terms

Being able to interpret the financial language of the stock market allows you to invest with confidence and better understand your portfolio. Some of the most commonly used words and phrases in the world of investing are outlined here.

 

Ordinary Shares

More commonly referred to simply as ‘shares’, ordinary shares give their holder partial ownership in a company. Holders of ordinary shares are entitled to voting rights, and receive any dividends the company may declare. 

Index

An index is a point of reference used to measure the performance of the stock market or a particular element of the stock market. An example of an index in the Australian stock market is the S&P/ASX 200, which is a theoretical portfolio of 200 of the largest ASX-listed companies, and is often used to represent the overall stock market. 

Volatility

Volatility is the measurement of the price movement of a share or the stock market as a whole. High volatility refers to more extreme fluctuations in the prices of shares, making performance more difficult to predict. Volatility is often used as an indication of the risk involved with the purchase of a share.

Dividend Imputation

This refers to a tax regulation where the tax paid by a company in Australia is credited to the shareholders. Each shareholder is evaluated based on the total amount of the dividend and imputation credit, and is then allowed to claim a tax rebate of the same value as the imputation credit. This process eliminates the double taxation of company profits.
 
If the franking credits that you have received exceed the tax you must pay, you can claim the difference as a tax refund.

Dividend Yield

Dividend yield is a financial ratio that equates the income received from shares to the price paid for them, expressed as a percentage. The ratio is found by dividing the total annual dividends of a company by its share price.

Franked Dividends

Franked dividends are dividends paid out of an Australian company’s income that has already been taxed. Shareholders in these companies receive a reduction in income tax in line with the amount of tax already paid by the company. Dividends can be fully (the entire amount of the dividend carries a franking credit) or partially (dividends have a franked and unfranked amount) franked, leading to different tax benefits.

Dead Cat Bounce

A temporary recovery in a company’s stock price after a sustained drop in its share price, followed by a continued downward trend.

PE Ratio

Standing for price-earnings ratio, the PE ratio is simply the price the market is willing to pay for one dollar of the company’s earnings. The ratio is found by dividing the share price of a company by its past (trailing PE) or predicted future (forward PE) earnings per share (EPS). A higher PE ratio often means that the market has higher growth expectations for a company, however investors should take care when using this as a measure of value, as there are many factors that can influence the PE ratio. 

Earnings per Share

More commonly referred to as simply EPS, earnings per share is found by dividing a company’s net income by the number of shares on issue. EPS is one of the ways a company’s performance is measured.

Return on Equity

Often shortened to ROE, return on equity is a measure of how well a company utilises the funds it receives from the sale of shares. It is calculated by dividing a company’s net income by the total equity of its shareholders. Generally, a company with a higher ROE is more profitable than a company with a lower ROE, however there are many other factors that can influence this as well, and often a ‘good’ or ‘bad’ ROE is dependent on the industry in which the company operates.

EBIT

Earnings before interest and tax, or EBIT, measures a company’s total revenue minus all expenses other than interest and tax.

Beta

A measurement of the volatility of a company’s share price compared to the volatility of the stock market as a whole. A beta of 1 means that the share price moves in line with the overall stock market. A beta greater than 1 means the company’s share prices increase more than the overall stock market when the market is rising, and falls more when the market is falling (and vice versa when the beta is lower than 1).

Alpha

Alpha measures the excess return of a security or managed fund in relation to the return of the relative benchmark index. For example, if a managed share fund returned 15% and the stock market index returned 10%, then the alpha provided by the managed fund is 5%.

Cyclical Stocks

Stocks that fluctuate in price as a response to the changing business cycle are referred to as cyclical stocks. For example, when the economy heads into an upswing, a cyclical stock will tend to perform better and vice versa. Resources companies are often used as examples of cyclical stocks.

Bear Market

This is a term to describe when the market is in a downswing where share prices are falling.

Bull Market

Describes a market that is in an upswing where share prices are rising.

Derivatives

Derivatives are investment products which derive their value from an underlying asset, such as stocks, commodities, or fixed income instruments. Options, futures and warrants are all examples of derivatives as their value is determined by changes in the value of their underlying assets.








This article is intended to provide general advice only and has been prepared without taking into account your objectives, financial situation or needs. Therefore, before acting on any information contained in this article, you should consider its appropriateness having regard to your objectives, financial situation and needs.