Saturday, May 9, 2009

Common Financial Terms - Part IV

Basis Trading

An arbitrage strategy usually consisting of the purchase of a particular security and the sale of a similar security (often the purchase of a security and the sale of a corresponding futures contract). Basis trading is done when the investor feels that the two securities are mispriced with respect to each other, and that the mispricing will correct itself such that the gain on one side of the trade will more than cancel out the loss on the other side of the trade. In the case of such a trade taking place on a security and the futures contract, the trade will be profitable if the purchase price plus the cost of carry is less than the futures price. also called cash and carry trade.

Net Proceeds

The amount of money received from a sale, after subtracting transaction costs. In the case of an investor selling securities, net proceeds is the total revenue from sales minus trading costs. In the case of an issuer of securities, net proceeds are the capital raised minus the costs of issuing the securities. For a property, net proceeds are the price of the house minus commissions, closing costs, costs of any repairs and inspections that may need to be undertaken, and realtor's charges.

Exercise Price

The specified price on an option contract at which the contract may be exercised, whereby a call option buyer can buy the underlier or a put option buyer can sell the underlier. The buyer's profit from exercising the option is the amount by which the spot price exceeds the exercise price (in the case of a call), or the amount by which the exercise price exceeds the spot price (in the case of a put). In general, the smaller the difference between spot and exercise price, the higher the option premium. also called strike price.

Net Capital Ratio

SEC requirement that all broker/dealers maintain a ratio of no more than 15:1 between indebtedness and liquid assets. Indebtedness includes money owed to the firm, margin loans, and commitments to purchase securities. Liquid assets include cash and assets which are easily converted to cash. The purpose of this rule is to make sure that the broker/dealer will be able to maintain its operations and not adversely affect the capital markets even if it suffers a large amount of bad debt. called net capital rule.

Credit Report

A report containing detailed information on a person's credit history, including identifying information, credit accounts and loans, bankruptcies and late payments, and recent inquiries. It can be obtained by prospective lenders with the borrower's permission, to determine his or her creditworthiness.

Knock-out Option

An option that becomes worthless in the event that the underlying commodity or currency crosses a certain price level.

Reload Option

An employee stock option granted upon the exercise of an option using shares already in the holder's possession. The reload option expires on the same date as the original option and its exercise price is equal to the price of the stock upon exercise of the original option.


A measure of the ability of a security to be bought and sold. If there is an active marketplace for a security, it has good marketability. Marketability is similar to liquidity, except that liquidity implies that the value of the security is preserved, whereas marketability simply indicates that the security can be bought and sold easily.

Overnight Limit

The maximum amount of currency positions that can be carried over from one trading day to another. The overnight limit is set by the Central Bank regulation the financial institution where the positions are held.

Strike Price

The specified price on an option contract at which the contract may be exercised, whereby a call option buyer can buy the underlier or a put option buyer can sell the underlier. The buyer's profit from exercising the option is the amount by which the strike price exceeds the spot price (in the case of a put), or the amount by which the spot price exceeds the strike price (in the case of a call). In general, the smaller the difference between spot and strike price, the higher the option premium. also called exercise price.

Tax Straddle

An investing technique which is undergone for the purposes of creating tax benefits. To do this, it involves purchasing specific futures or options contracts where the loss of one contract will balance out the gain of another contract, and push back the tax impact until the next year. This technique is no longer practiced, as laws have been passed which require most gains and losses to be realized at the end of the calendar year.

Checking Account

An account which allows the holder to write checks against deposited funds. Checking accounts which pay interest are sometimes referred to as negotiable order of withdrawal (NOW) accounts. The interest rate often depends on how large the balance in the account is, and most charge a monthly service fee if the account balance falls below a preset level.

National Association of Securities Dealers Automated Quotations system - NASDAQ

A computerized system established by the NASD to facilitate trading by providing broker/dealers with current bid and ask price quotes on over-the-counter stocks and some listed stocks. Unlike the Amex and the NYSE, the Nasdaq (once an acronym for the National Association of securities Dealers Automated Quotation system) does not have a physical trading floor that brings together buyers and sellers. Instead, all trading on the Nasdaq exchange is done over a network of computers and telephones. Also, the Nasdaq does not employ market specialists to buy unfilled orders like the NYSE does. The Nasdaq began when brokers started informally trading via telephone; the network was later formalized and linked by computer in the early 1970s. In 1998 the parent company of the Nasdaq purchased the Amex, although the two continue to operate separately. Orders for stock are sent out electronically on the Nasdaq, where market makers list their buy and sell prices. Once a price is agreed upon, the transaction is executed electronically.

Economic Value Added - EVA

The monetary value of an entity at the end of an time period minus the monetary value of that same entity at the beginning of that time period.

For a company, after-tax earnings minus the opportunity cost of capital. As with any other entity, economic value added essentially measures how much more valuable a company has become during a given time period.

Financial Terms - Part I
Financial Terms - Part II
Financial Terms - Part III
Financial Terms - Part V
Financial Terms - Part VI

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