Finance Glossary

Selling Pressure

Selling pressure occurs when the majority of the traders are selling, indicating that the majority think the market price will decrease.

Support

Support is a price level where a downtrend can be expected to pause due to a concentration of demand or buying interest. As the price of assets or securities drops, demand for the shares increases, thus forming the support line.

Tax-Loss Harvesting (Tax Selling)

Tax selling involves selling stocks at a loss to reduce the capital gain earned on an investment. Since capital loss is tax-deductible, the loss can be used to offset any capital gains to reduce an investor's tax liability.

Technical Analysis

Technical analysis is a trading discipline employed to evaluate investments and identify trading opportunities by analyzing statistical trends gathered from trading activity, such as price movement and volume.

Techical Traders

Technical traders focus on charts and graphs. They watch lines on stock or index graphs for signs of convergence or divergence that might indicate buy or sell signals.

Monday Effect (Weekend Effect)

The Monday effect is a theory which states that returns on the stock market on Mondays will follow the prevailing trend from the previous Friday. Therefore, if the market was up on Friday, it should continue through the weekend and, come Monday, resume its rise and vice versa.

October Effect

The October effect is a the perception that stock markets decline during the month of October, and is classified as market anomaly. The October effect is considered to be primarily a psychological expectation rather than an actual phenomenon as most statistics go against the theory. The October effect, as well as other calendar anomalies, have seemed to largely disappear over the past decades.

September Effect

The September effect refers to historically weak stock market returns for the month of September. There is a statistical case for the September effect depending on the period analyzed, but much of the theory is anecdotal. It is generally believed that investors return from summer vacation in September ready to lock in gains as well as tax losses before the end of the year. There is also a belief that individual investors liquidate stocks going into September to offset schooling costs for children. As with many other calendar effects, the September effect is considered a historical quirk in the data rather than an effect with any causal relationship.

Challenges of Technical Analysis

The challenge of technical analysis is that there are literally hundreds of technical indicators available, and there is no single indicator that is considered universally better as each particular indicator or group of indicators, that may be applicable only to specific circumstances. Some technical indicators may be useful for certain industries, others only for stocks of a certain classification (for example, stocks within a certain range of liquidity or market capitalization). Technical indicators, like momentum indicators, are not a silver bullet for deciding when to buy or sell. They are poor predictors of precise timing, but they are good at indicating which stocks are candidates for further analysis.

Direct Method of Displaying Operational Cash Flow (Recommended)

The second option is the direct method, in which a company records all transactions on a cash basis and displays the information on the cash flow statement using actual cash inflows and outflows during the accounting period. Examples of the direct method of cash flows from operating activities include: Salaries paid out to employees Cash paid to vendors and suppliers Cash collected from customers Interest income and dividends received Income tax paid and interest paid The Financial Accounting Standards Board (FASB) recommends that companies use the direct method as it offers a clearer picture of cash flows in and out of a business. However, as an added complexity of the direct method, the FASB also requires a business using the direct method to disclose the reconciliation of net income to the cash flow from operating activities that would have been reported if the indirect method had been used to prepare the statement.

Candlestick Chart

A candlestick is a type of price chart used in technical analysis that displays the high, low, open, and closing prices of a security for a specific period. It originated from Japanese rice merchants and traders to track market prices and daily momentum hundreds of years before becoming popularized in the United States. The wide part of the candlestick is called the "real body" and tells investors whether the closing price was higher or lower than the opening price (black/red if the stock closed lower, white/green if the stock closed higher). The extremes are called the shadows of the candle.

Cash Flow Statement

A cash flow statement is a financial statement that provides aggregate data regarding all cash inflows a company receives from its ongoing operations and external investment sources. It also includes all cash outflows that pay for business activities and investments during a given period. The cash flow statement is focused on cash accounting. The cash flow statement bridges the gap between the income statement and the balance sheet by showing how much cash is generated or spent on operating, investing, and financing activities for a specific period. Profitable companies can fail to adequately manage cash flow, which is why the cash flow statement is a critical tool for companies, analysts, and investors. The cash flow statement is broken down into three different business activities: operations, investing, and financing.

Deposits

A deposit is a financial term with multiple definitions. One definition of deposit refers to when a portion of funds is used as security or collateral for the delivery of goods or services. Another kind of deposit involves a transfer of funds to another party, such as a bank, for safekeeping.

The January Effect

According to the January effect, stocks that underperformed in the fourth quarter of the prior year tend to outperform the markets in January. The reason for the January effect is so logical that it is almost hard to call it an anomaly. Investors will often look to dump underperforming stocks late in the year so that they can use their losses to offset capital gains taxes (or to take the small deduction that the IRS allows if there is a net capital loss for the year a.k.a tax-loss harvesting). As these selloffs are (generally) independent of the company's actual fundamentals or valuation, this "tax selling" can push these stocks to levels where they become attractive to buyers in January. Likewise, investors will often avoid buying underperforming stocks in the fourth quarter and wait until January to avoid getting caught up in the tax-loss selling. As a result, there is excess selling pressure before January and excess buying pressure after January 1, leading to this effect.

Accrual Accounting

Accrual accounting is an accounting method where revenue or expenses are recorded when a transaction occurs rather than when payment is received or made. The method follows the matching principle, which says that revenues and expenses should be recognized in the same period. Most public companies use accrual accounting, which means the income statement is not the same as the company's cash position.

Compounded Annual Growth Rate (CAGR)

Compound annual growth rate (CAGR) is the rate of return that would be required for an investment to grow from its beginning balance to its ending balance, assuming the profits were reinvested at the end of each year of the investment's lifespan. CAGR is one of the most accurate ways to calculate and determine returns for anything that can rise or fall in value over time. Investors can compare the CAGR of two alternatives in order to evaluate how well one stock performed against other stocks in a peer group or against a market index. It is essentially a number that describes the rate at which an investment would have grown if it had grown the same rate every year and the profits were reinvested at the end of each year. In reality, this sort of performance is unlikely. However, CAGR can be used to smooth returns so that they may be more easily understood when compared to alternative investments. CAGR does not reflect investment risk.

Debt Financing

Debt financing must be repaid, and lenders want to be paid a rate of interest in exchange for the use of their money. Some lenders require collateral. For example, assume the owner of the grocery store also decides that they need a new truck and must take out a loan for $40,000. The truck can serve as collateral against the loan, and the grocery store owner agrees to pay 8% interest to the lender until the loan is paid off in five years. Debt is easier to obtain for small amounts of cash needed for specific assets, especially if the asset can be used as collateral. While debt must be paid back even in difficult times, the company retains ownership and control over business operations.

Financing

Financing is the process of funding business activities, making purchases, or investments. Put differently, financing is a way to leverage the time value of money (TVM) to put future expected money flows to use for projects started today. Financing also takes advantage of the fact that some individuals in an economy will have a surplus of money that they wish to put to work to generate returns, while others demand money to undertake investment (also with the hope of generating returns), creating a market for the money. The weighted average cost of capital (WACC) gives a clear picture of a firm's total cost of financing. There are two types of financing: equity financing and debt financing.

Fundamentals

Fundamentals provide a method to set the financial value of a company, security, or currency. Included in fundamental analysis is basic qualitative and quantitative information that contributes to the asset's financial or economic well-being. - Macroeconomic fundamentals include topics that affect an economy at large. - Microeconomic fundamentals focus on the activities within smaller segments of the economy. - For businesses, information such as profitability, revenue, assets, liabilities, and growth potential are considered fundamentals.

Future Value (FV)

Future value (FV) is the value of a current asset at a future date based on an assumed rate of growth. The future value (FV) is important to investors and financial planners as they use it to estimate how much an investment made today will be worth in the future. Knowing the future value enables investors to make sound investment decisions based on their anticipated needs. However, external economic factors, such as inflation, can adversely affect the future value of the asset by eroding its value.

Market Anomalies

In economics and finance, an anomaly is when the actual result under a given set of assumptions is different from the expected result predicted by a model. An anomaly provides evidence that a given assumption or model does not hold up in practice. The model can either be a relatively new or older model. Pricing anomalies are when something, for example a stock, is priced differently than how a model predicts it will be priced. - Most market anomalies are psychologically driven. - Anomalies tend to quickly disappear once knowledge about them has been made public. - Common market anomalies include the small-cap effect and the January effect. - Market anomalies are distortions in returns that contradict the efficient market hypothesis (EMH).

Present Value

Present value (PV) is the current value of a future sum of money or stream of cash flows given a specified rate of return. Future cash flows are discounted at the discount rate, and the higher the discount rate, the lower the present value of the future cash flows. For example, Receiving $1,000 today is worth more than $1,000 five years from now. Why? An investor can invest the $1,000 today and presumably earn a rate of return over the next five years. Present value takes into account any interest rate an investment might earn. Money not spent today could be expected to lose value in the future by some implied annual rate, which could be inflation or the rate of return if the money was invested. The present value formula discounts the future value to today's dollars by factoring in the implied annual rate from either inflation or the rate of return that could be achieved if a sum was invested.

Resistance

Resistance, or a resistance level, is the price at which the price of an asset meets pressure on its way up by the emergence of a growing number of sellers who wish to sell at that price. Resistance levels can be short-lived if new information comes to light that changes the overall market's attitude toward the asset, or they can be long-lasting. In terms of technical analysis, the simple resistance level can be charted by drawing a line along the highest highs for the time period being considered. Resistance can be contrasted with support. Depending on price action, this line can be flat or slanted. There are, however, more advanced ways to identify resistance incorporating bands, trendlines and moving averages.

Simple Rate of Return (Basic Growth Rate) (Return on Investment [ROI])

The simple rate of return is sometimes called the basic growth rate, or alternatively, return on investment (ROI).

The Small Cap Effect

The small-cap effect refers to the small company effect, where smaller companies tend to outperform larger ones over time.

Time Value of Money (TVM)

The time value of money assumes that a dollar today is worth more than a dollar tomorrow because it can be invested. For example, assuming a 5% annual interest rate, $1.00 in a savings account will be worth $1.05 in a year. Similarly, if a $1 payment is delayed for a year, its present value is $.95 because it cannot be put in your savings account to earn interest.

Weighted Average Cost of Capital (WACC)

The weighted average cost of capital (WACC) is a calculation of a firm's cost of capital in which each category of capital is proportionately weighted. This incorporates all sources of a company's capital—including common stock, preferred stock, bonds, and any other long-term debt. A firm's WACC increases as the beta and rate of return on equity increase because an increase in WACC denotes a decrease in valuation and an increase in risk. Can be used as a hurdle rate against which companies and investors can gauge ROIC performance. WACC is commonly used as the discount rate for future cash flows in DCF analyses.

Free Cash Flow

To understand the true profitability of the business, analysts look at free cash flow. It is a really useful measure of financial performance - that tells a better story than net income — because it shows what money the company has left over to expand the business or return to shareholders, after paying dividends, buying back stock, or paying off debt. Free Cash Flow = Operating Cash Flow - Capital Expenditures

Trading Volume

Trading volume is the number of shares of a security traded during a given period of time. Generally, securities with more daily volume are more liquid than those without, since they are more "active". A spike in volume is typically caused by a significant market catalyst that merits attention. Volume is an important indicator in technical analysis because it is used to measure the relative significance of a market move. Looking at volume patterns over time can help get a sense of the strength or conviction behind advances and declines in specific stocks and entire markets. The same is true for options traders, as trading volume is an indicator of an option's current interest. In fact, volume plays an important role in technical analysis and features prominently among some key technical indicators. For instance, if traders want to confirm a reversal on a level of support-or floor-they look for high buying volume.

Market Trends

Trends reflect changing opinions, habits, and ideas that can affect what types of products and services customers will buy.

Bad Debt

Unpaid customers' bills that are now very unlikely to ever be paid. Bad debt expense is an unfortunate cost of doing business with customers on credit, as there is always a default risk inherent to extending credit. To comply with the matching principle, bad debt expense must be estimated using the allowance method in the same period in which the sale occurs. There are two main ways to estimate an allowance for bad debts: the percentage sales method and the accounts receivable aging method. Bad debts can be written-off on both business and individual tax returns.

Unsystematic Risk

Unsystematic risk, also known as diversifiable risk, is the uncertainty associated with an individual stock or industry. For example, the surprise announcement that the company Lumber Liquidators (LL) had been selling hardwood flooring with dangerous levels of formaldehyde in 2015 is an example of unsystematic risk.2 It was risk that was specific to that company. Unsystematic risk can be partially mitigated through diversification.

Up Volume (Up on Volume)

Up volume generally refers to a high or increasing volume of shares traded in either a market or security that leads to an increase in value. Overall, volume can be influenced by a number of factors and may have various affects. Up volume may indicate a shift in trend toward a rally or bull market.

Discounted Cash Flow Analysis

When a company looks to analyze whether it should invest in a certain project or purchase new equipment, it usually uses its weighted average cost of capital (WACC) as the discount rate when evaluating the DCF. The WACC incorporates the average rate of return that shareholders in the firm are expecting for the given year (a sort of opportunity cost). You are looking to invest in a project, and your company's WACC is 5%, so you will use 5% as your discount rate. The initial investment is $11 million and the project will last for five years, with the attached estimated cash flows per year. If we sum up all of the discounted cash flows, we get a value of $13,306,728. Subtracting the initial investment of $11 million, we get a net present value (NPV) of $2,306,728. Because this is a positive number, the cost of the investment today is worth it as the project will generate positive discounted cash flows above the initial cost. If the project had cost $14 million, the NPV would have been -$693,272, indicating that the cost of the investment would not be worth it.

Wash Selling

When an investor, influenced by the tax-deductibility of losses, sells at a loss, deducts the loss, and then turns around and buy the same stock again in an effort to evade taxes.

Working Capital (Net Working Capital) (NWC)

Working capital, also known as net working capital (NWC), is the difference between a company's current assets, such as cash, accounts receivable (customers' unpaid bills) and inventories of raw materials and finished goods, and its current liabilities, such as accounts payable. Working capital is a measure of a company's liquidity, operational efficiency and its short-term financial health. If a company has substantial positive working capital, then it should have the potential to invest and grow. If a company's current assets do not exceed its current liabilities, then it may have trouble growing or paying back creditors, or even go bankrupt. A company has negative working capital If the ratio of current assets to liabilities is less than one. Positive working capital indicates that a company can fund its current operations and invest in future activities and growth. High working capital isn't always a good thing. It might indicate that the business has too much inventory or is not investing its excess cash. Working capital is important because it is necessary in order for businesses to remain solvent. In theory, a business could become bankrupt even if it is profitable. After all, a business cannot rely on accounting profits in order to pay its bills—those bills need to be paid in cash readily in hand. To illustrate, consider the case of a company that had accumulated $1 million in cash due to its previous years' retained earnings. If the company were to invest all $1 million at once, they could find themselves with insufficient current assets to pay for their current liabilities.

Compound Interest Rate

inverse of discount rate

Capital Markets

Capital markets refer to the places where savings and investments are moved between suppliers of capital and those who are in need of capital. Capital markets consist of the primary market, where new securities are issued and sold, and the secondary market, where already-issued securities are traded between investors. The most common capital markets are the stock market and the bond market.

Noise Traders

(Usually emotional) investors who make decisions to buy or sell based on factors they believe to be helpful but in reality will give them no better returns than random choices. Conventional wisdom posits that noise traders are considered to be substantial contributors to high-volume trading days because it is thought that these traders are making irrational decisions and responding emotionally. The category of traders that are stereotyped as noise traders includes novices and those who trade primarily based on technical analysis. However, those who don't trade the market averages and instead follow trading systems that underperform the market, regardless of the factors involved, should, strictly speaking, be lumped into the same category.

Hurdle Rate (Break-Even Yield)

A hurdle rate is the minimum rate of return on a project or investment required by a manager or investor. It allows companies to make important decisions on whether or not to pursue a specific project. The hurdle rate describes the appropriate compensation for the level of risk present—riskier projects generally have higher hurdle rates than those with less risk. In order to determine the rate, the following are some of the areas that must be taken into consideration: associated risks, cost of capital, and the returns of other possible investments or projects. Companies often use their weighted average cost of capital (WACC) as the hurdle rate. Hurdle rates are very important in the business world, especially when it comes to future endeavors and projects. Companies determine whether they will take on capital projects based on the level of risk associated with it. If an expected rate of return is above the hurdle rate, the investment is considered sound. If the rate of return falls below the hurdle rate, the investor may choose not to move forward. A hurdle rate is also referred to as a break-even yield. The higher the risk, the higher the risk premium should be, as it takes into consideration the fact that if the risk of losing your money is higher, so should the return on your investment be higher. A risk premium is typically added onto the WACC to arrive at a more appropriate hurdle rate. Hurdle rates typically favor projects or investments that have high rates of return on a percentage basis, even if the dollar value is smaller. For example, project A has a return of 20% and a dollar profit value of $10. Project B has a return of 10% and a dollar profit value of $20. Project A would most likely be chosen because it has a higher rate of return, even though it returns less in terms of overall dollar value. In addition, choosing a risk premium is a difficult task as it is not a guaranteed number. A project or investment may return more or less than expected and if chosen incorrectly, this can result in a decision that is not an efficient use of funds or one that results in missed opportunities.

Efficient Market Hypothesis (EMH) (Efficient Market Theory)

A hypothesis that states that share prices reflect all information and consistent alpha generation is impossible. According to the EMH, stocks always trade at their fair value on exchanges, making it impossible for investors to purchase undervalued stocks or sell stocks for inflated prices. Although it is a cornerstone of modern financial theory, the EMH is highly controversial and often disputed. Believers argue it is pointless to search for undervalued stocks or to try to predict trends in the market through either fundamental or technical analysis. The EMH may be incorrect because: 1. All investors view information differently and will therefore have different stock valuations 2. Stocks take time to respond to new information and catalysts 3. Stock prices can be affected by human error and emotional decision making 4. Investors have proven that they can profit from market anomalies.

Line Chart

A line chart gives traders a clear visualization of where the price of a security has traveled over a given time period. Because line charts only show closing prices, they reduce noise from less critical times in the trading day, such as the open, high, and low.

Liquid Asset

A liquid asset is an asset that can easily be converted into cash in a short amount of time. Liquid assets include things like cash, money market instruments, and marketable securities. Both individuals and businesses can be concerned with tracking liquid assets as a portion of their net worth. For the purposes of financial accounting, a company's liquid assets are reported on its balance sheet as current assets. Business assets are usually broken out through the quick and current ratio methods to analyze liquidity types and solvency. Having a net liquid asset position signifies a company is in good health and is able to pay its short-term obligations, such as paying suppliers and paying down short-term debt. A net liquid asset position also demonstrates that a company can make new investments without having to take on financing. Having too many liquid assets, however, demonstrates an idle use of cash, whereby the money could be put to better use, such as other investments or paying out dividends.

Rate of Return

A rate of return (RoR) is the net gain or loss of an investment over a specified time period, expressed as a percentage of the investment's initial cost. When calculating the rate of return, you are determining the percentage change from the beginning of the period until the end. A rate of return (RoR) can be applied to any investment vehicle, from real estate to bonds, stocks, and fine art.

Reversals

A reversal is a change in the price direction of an asset. A reversal can occur to the upside or downside. Following an uptrend, a reversal would be to the downside. Following a downtrend, a reversal would be to the upside. Reversals are based on overall price direction and are not typically based on one or two periods/bars on a chart. Certain indicators, such a moving average, oscillator, or channel, may help in isolating trends as well as spotting reversals. Reversals may be compared with breakouts.

Self-Regulatory Organization (SRO)

An entity such as a non-governmental organization, which has the power to create and enforce stand-alone industry and professional regulations and standards on its own. In the case of financial SROs, such as a stock exchange, the priority is to protect investors by establishing rules, regulations, and set standards of procedures which promote ethics, equality, and professionalism.

Financial Industry Regulatory Authority (FINRA)

An independent, nongovernmental organization that writes and enforces the rules governing registered brokers and broker-dealer firms in the United States. Its stated mission is "to safeguard the investing public against fraud and bad practices."It is considered a self-regulatory organization.

Bar Chart

Bar charts show multiple price bars over time. Each bar shows how prices moved over a specified time period. A daily bar chart shows a price bar for each day. Each bar typically shows open, high, low, and closing (OHLC) prices. This may be adjusted to show only the high, low, and close (HLC). Technical analysts use bar charts—or other chart types such as candlestick or line charts—to monitor price action, which aids in trading decisions. Bar charts allow traders to analyze trends, spot potential trend reversals, and monitor volatility and price movements.

Beta

Beta is a measure of the volatility—or systematic risk—of a security or portfolio compared to the market as a whole. Beta is primarily used in the capital asset pricing model. Beta data about an individual stock can only provide an investor with an approximation of how much risk the stock will add to a (presumably) diversified portfolio. A security's beta is calculated by dividing the product of the covariance of the security's returns and the market's returns by the variance of the market's returns over a specified period. The greater the risk (the higher beta is), the greater the potential for greater returns. If a stock has a beta of 1.0, it indicates that its price activity is strongly correlated with the market. A stock with a beta of 1.0 has systematic risk. However, the beta calculation can't detect any unsystematic risk. A beta value that is less than 1.0 means that the security is theoretically less volatile than the market. Including this stock in a portfolio makes it less risky than the same portfolio without the stock. A beta that is greater than 1.0 indicates that the security's price is theoretically more volatile than the market. For example, if a stock's beta is 1.2, it is assumed to be 20% more volatile than the market. Technology stocks and small cap stocks tend to have higher betas than the market benchmark. Some stocks have negative betas. A beta of -1.0 means that the stock is inversely correlated to the market benchmark. This stock could be thought of as an opposite, mirror image of the benchmark's trends. Put options and inverse ETFs are designed to have negative betas. Beta is useful in determining a security's short-term risk, and for analyzing volatility to arrive at equity costs when using the CAPM. However, since beta is calculated using historical data points, it becomes less meaningful for investors looking to predict a stock's future movements. Beta is also less useful for long-term investments since a stock's volatility can change significantly from year to year, depending upon the company's growth stage and other factors.

Buying Pressure

Buying pressure occurs when the majority of traders are buying, indicating the majority think the market price will increase.

Cash Flow from Financing Activities (CFF)

Cash flow from financing activities (CFF) is a section of a company's cash flow statement, which shows the net flows of cash from financing activities including transactions involving debt, equity, and dividends. Cash flow from financing activities provides investors with insight into a company's financial strength and how well a company's capital structure is managed. Debt and equity financing are reflected in the cash flow from financing section, which varies with the different capital structures, dividend policies, or debt terms that companies may have. CFF indicates the means through which a company raises cash to maintain or grow its operations. A company's source of capital can be from either debt or equity. When a company takes on debt, it typically does so by issuing bonds or taking a loan from the bank. Either way, it must make interest payments to its bondholders and creditors to compensate them for loaning their money. When a company goes through the equity route, it issues stock to investors who purchase the stock for a share in the company. Some companies make dividend payments to shareholders, which represents a cost of equity for the firm. Transactions That Cause Positive Cash Flow From Financing Activities - Issuing equity or stock, which is sold to investors - Borrowing debt from a creditor or bank - Issuing bonds, which is debt that investors purchase Transactions That Cause Negative Cash Flow From Financing Activities - Stock repurchases - Dividends - Paying down debt

Cash Flow From Investing Activities

Cash flow from investing activities is a section of the cash flow statement that shows the cash generated or spent relating to investment activities. Investing activities include purchases of physical assets, investments in securities, or the sale of securities or assets. Negative cash flow from investing activities might not be a bad sign if management is investing in the long-term health of the company. Capital expenditures (CapEx), also found in this section, is a popular measure of capital investment used in the valuation of stocks. An increase in capital expenditures means the company is investing in future operations. However, capital expenditures are a reduction in cash flow. Typically, companies with a significant amount of capital expenditures are in a state of growth. Below are a few examples of cash flows from investing activities along with whether the items generate negative or positive cash flow. - Purchase of fixed assets: cash flow negative - Purchase of investments such as stocks or securities: cash flow negative - Lending money: cash flow negative - Sale of fixed assets: cash flow positive - Sale of investment securities: cash flow positive - Collection of loans and insurance proceeds: cash flow positive

Cash Flow from Operating Activities (CFO) (Operating Cash Flow [OCF])

Cash flow from operating activities (CFO) indicates the amount of money a company brings in from its ongoing, regular business activities, such as manufacturing and selling goods or providing a service to customers. It is the first section depicted on a company's cash flow statement. Cash flow from operating activities is an important benchmark to determine the financial success of a company's core business activities. Cash flow from operating activities is the first section depicted on a cash flow statement, which also includes cash from investing and financing activities. There are two methods for depicting cash from operating activities on a cash flow statement: the indirect method and the direct method. Cash Flow from Operating Activities = Funds from Operations + Changes in Working Capital where, Funds from Operations = (Net Income + Depreciation, Depletion, & Amortization + Deferred Taxes & Investment Tax redit + Other Funds) Inventories, tax assets, accounts receivable, and accrued revenue are common items of assets for which a change in value will be reflected in cash flow from operating activities. Accounts payable, tax liabilities, deferred revenue, and accrued expenses are common examples of liabilities for which a change in value is reflected in cash flow from operations. The cash flow from operations is more commonly used for reviewing a single company's performance over two reporting periods, rather than comparing one company to another, even if the two belong in the same industry.

Cash Flow

Cash flow is the net amount of cash and cash-equivalents being transferred into and out of a business. At the most fundamental level, a company's ability to create value for shareholders is determined by its ability to generate positive cash flows, or more specifically, maximize long-term free cash flow (FCF). Positive cash flow indicates that a company is adding to its cash reserves, allowing it to reinvest in the company, pay out money to shareholders, or settle future debt payments. Cash flow comes in three forms: operating, investing, and financing. Free cash flow, a measure commonly used by analysts to assess a company's profitability, represents the cash a company generates after accounting for cash outflows to support operations and maintain its capital assets.

Discounted Cash Flow (DCF)

Discounted cash flow is a valuation method used to estimate the value of an investment based on its expected future cash flows. The purpose of DCF analysis is to estimate the money an investor would receive from an investment, adjusted for the time value of money. As such, a DCF analysis is appropriate in any situation where a person is paying money in the present with expectations of receiving more money in the future. DCF analysis finds the present value of expected future cash flows using a discount rate. The present value of expected future cash flows is arrived at by using a discount rate to calculate the discounted cash flow. If the discounted cash flow (DCF) is above the current cost of the investment, the opportunity could result in positive returns. Companies typically use the weighted average cost of capital for the discount rate, as it takes into consideration the rate of return expected by shareholders. The main limitation of DCF is that it requires making many assumptions. For one, an investor would have to correctly estimate the future cash flows from an investment or project. The future cash flows would rely on a variety of factors, such as market demand, the status of the economy, unforeseen obstacles, and more. Estimating future cash flows too high could result in choosing an investment that might not pay off in the future, hurting profits. Estimating cash flows too low, making an investment appear costly, could result in missed opportunities. Choosing a discount rate for the model is also an assumption and would have to be estimated correctly for the model to be worthwhile.

Down Volume (Down on Volume)

Down volume occurs when a security's price decreases accompanied by a high or increasing volume of trading. This is a bearish scenario. Down volume days are typically influenced by negative news about a stock directly or news influencing the stock indirectly - negative news usually leads to a selloff. If the price of a security falls, but only on low volume, then there may be other factors at work aside from a true bear turn. For instance, some market makers or other participants are away on vacation leading to less liquidity than usual, or buyers are waiting for the price to move slightly lower before entering bids.

Day of the Week Anomalies

Efficient market supporters hate the "Days of the Week" anomaly because it not only appears to be true, but it also makes no sense. Research has shown that stocks tend to move more on Fridays than Mondays and that there is a bias toward positive market performance on Fridays. It is not a huge discrepancy, but it is a persistent one.

Equity Financing

Equity financing does not need to be paid back, but it relinquishes ownership stakes to the shareholder. For example, the owner of a grocery store chain needs to grow operations. Instead of debt, the owner would like to sell a 10% stake in the company for $100,000, valuing the firm at $1 million. Companies like to sell equity because the investor bears all the risk; if the business fails, the investor gets nothing. At the same time, giving up equity is giving up some control. Equity investors want to have a say in how the company is operated, especially in difficult times, and are often entitled to votes based on the number of shares held. So, in exchange for ownership, an investor gives his money to a company and receives some claim on future earnings. Some investors are happy with growth in the form of share price appreciation; they want the share price to go up. Other investors are looking for principal protection and income in the form of regular dividends.

Eurodollar

Eurodollars refer to dollar-denominated accounts at foreign banks or overseas branches of American banks. The eurodollar market is one of the world's biggest capital markets and consists of sophisticated financial instruments.

Intrinsic Value

Intrinsic value is a measure of what an asset is worth. This measure is arrived at by means of an objective calculation or complex financial model, rather than using the currently trading market price of that asset. Most often the term implies the work of a financial analyst who attempts to estimate an asset's intrinsic value through the use of fundamental and technical analysis. There is no universal standard for calculating the intrinsic value of a company, but financial analysts build valuation models based on aspects of a business that include qualitative, quantitative and perceptual factors; Qualitative factors—such as business model, governance, and target markets—are those items specific to the what the business does. Quantitative factors found in fundamental analysis include financial ratios and financial statement analysis. These factors refer to the measures of how well the business performs. Perceptual factors seek to capture investors perceptions of the relative worth of an asset. These factors are largely accounted for by means of technical analysis. Creating an effective mathematical model for weighing these factors is the bread and butter work of a financial analyst. The analyst must use a variety of assumptions and attempt to reduce subjective measures as much as possible. In the end, however, any such estimation is at least partly subjective. The analyst compares the value derived by this model to the asset's current market price to determine whether the asset is overvalued or undervalued.

Noise Trader Agenda

Involves two conditions that work to invalidate the EMH: 1) Noise trader behavior must be systematic. Noise traders must be shown not to simply cancel one another out. If some are too optimistic and others are too pessimistic, then one group may simply cancel out the effect of the other. Instead, there must be something like herd activity, such that a large group of noise traders, or a small group with a large amount of assets, behave in a similar manner. 2) Noise traders need to survive economically for a significant period of time. If all noise traders do is lose money through their noise trading, then their impact will be limited. Noise traders need to make substantial and persistent profits under some conditions. Otherwise, noise traders are simply cannon fodder, as Friedman suggests, for the smart traders."

Net Present Value (NPV)

Net present value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows over a period of time. NPV is used in capital budgeting and investment planning to analyze the profitability of a projected investment or project.

Discount Rate

The discount rate refers to the interest rate used in discounted cash flow (DCF) analysis to determine the present value of future cash flows. The discount rate expresses the time value of money and can make the difference between whether an investment project is financially viable or not. In simple terms, if a project needs a certain investment now (as well as in future months) and predictions are available about the future returns it will generate, then—using the discount rate—it is possible to calculate the current value of all such cash flows. $100 invested today in a savings scheme that offers a 10% interest rate will grow to $110. In other words, $110 (future value) when discounted by the rate of 10% is worth $100 (present value) as of today. If one knows —or can reasonably predict—all such future cash flows (like the future value of $110), then, using a particular discount rate, the present value of such an investment can be obtained. if a business is assessing the viability of a potential project, they may use the weighted average cost of capital (WACC) as a discount rate, which is the average cost the company pays for capital from borrowing or selling equity. The discount rate that is chosen for the present value calculation is highly subjective because it's the expected rate of return you'd receive if you had invested today's dollars for a period of time. The net present value of all cash flows should be positive to proceed with the investment or the project. The word "discount" refers to future value being discounted to present value.

Systematic Risk (Un-Diversifiable Risk)

The first category is called systematic risk, which is the risk of the entire market declining. The financial crisis in 2008 is an example of a systematic-risk event; no amount of diversification could have prevented investors from losing value in their stock portfolios. Systematic risk is also known as un-diversifiable risk.

Indirect Method of Displaying Operational Cash Flow (Recommended)

The first option is the indirect method, where the company begins with net income on an accrual accounting basis and works backwards to achieve a cash basis figure for the period. Under the accrual method of accounting, revenue is recognized when earned, not necessarily when cash is received. For example, if a customer buys a $500 widget on credit, the sale has been made but the cash has not yet been received. The revenue is still recognized by the company in the month of the sale, and it shows up in net income on its income statement. Therefore, net income was overstated by this amount on a cash basis. The offset to the $500 of revenue would appear in the accounts receivable line item on the balance sheet. On the cash flow statement, there would need to be a reduction from net income in the amount of the $500 increase to accounts receivable due to this sale. It would be displayed on the cash flow statement as "Increase in Accounts Receivable -$500." Many accountants prefer the indirect method because it is simple to prepare the cash flow statement using information from the income statement and balance sheet. Most companies use the accrual method of accounting, so the income statement and balance sheet will have figures consistent with this method.

Accounting

The process of planning, recording, analyzing, and interpreting financial information.