Financial Terms and Definitions

Time Value of Money (TVM) & Valuation

Time Value of Money (TVM): A dollar today is worth more than a dollar tomorrow because it can be invested to earn interest.
Present Value (PV): The current worth of a future amount of money, discounted at a specific interest rate.
Future Value (FV): How much a sum of money today will be worth in the future, after earning interest.
Discount Rate: The interest rate used to reduce future cash flows to present value; reflects risk and opportunity cost.
Compounding: Earning interest on both the original principal and the accumulated interest.
Annuity: A series of equal payments made at regular intervals (e.g., car payments, pensions).
Net Present Value (NPV): The sum of all present values of future cash flows minus the initial investment—used to decide if an investment is worthwhile.
Internal Rate of Return (IRR): The discount rate that makes the NPV of a project zero—used to evaluate project profitability.
Discounted Cash Flow (DCF): A valuation method that estimates the value of an investment based on its future cash flows brought back to present value.

Income Statement: A report that shows a company’s revenues, expenses, and profit over a period.
Balance Sheet: A snapshot of a company’s assets, liabilities, and equity at a specific point in time.
Cash Flow Statement: A report showing how cash is generated and spent—broken into operating, investing, and financing activities.
Accounts Receivable: Money owed to the company by customers who bought on credit.
Accounts Payable: Money the company owes to suppliers or vendors.
Gross Margin: Revenue minus cost of goods sold—shows how efficiently a company produces goods.
Operating Cash Flow: Cash generated from the company's core business activities—better indicator of real health than net income.
Depreciation: The allocation of an asset’s cost over its useful life—reduces taxable income but doesn’t reduce cash.

Stock: A share of ownership in a company—represents a claim on assets and earnings.
Bond: A debt investment—you loan money to an entity and receive interest payments until maturity.
Mutual Fund: A pooled investment managed by professionals that buys a diversified portfolio of securities.
Index Fund: A type of mutual fund that tracks a specific market index like the S\&P 500.
Exchange-Traded Fund (ETF): A diversified fund that trades like a stock—combines flexibility with diversification.
Diversification: Spreading investments across different assets to reduce risk.
P/E Ratio (Price to Earnings): A stock valuation metric: price per share divided by earnings per share—high means growth expected or overvalued.
Beta: A measure of a stock’s volatility relative to the market—over 1 means more volatile.
Dividends: A portion of a company’s earnings paid to shareholders—a sign of consistent profitability.

Return on Investment (ROI): A performance metric: \frac{(gain – cost)}{cost}\—shows how efficiently you made a return.
Risk-Adjusted Return: A measure of how much return an investment gives relative to the risk it took on.
Volatility: The degree of variation in a security’s price—higher volatility means higher risk.
Liquidity: How easily an asset can be converted into cash without affecting its price.
Market Risk: Risk that affects the entire market, like interest rate hikes or economic downturns.
Credit Risk: The risk a borrower won’t repay—especially important in bonds.
Speculation: Investing with high risk and the hope of significant gain—opposite of long-term value investing.

Budget: A plan for income and expenses over a given period—helps manage cash flow.
Emergency Fund: Money set aside for unexpected expenses—typically 3–6 months of living costs.
Roth IRA: A retirement account where contributions are made post-tax, but withdrawals are tax-free.
Capital Budgeting: The process of planning and evaluating major investments or expenditures.
Forecasting: Predicting future financial outcomes based on current and historical data.
Fixed vs. Variable Costs: Fixed costs stay the same (e.g., rent), variable costs change with usage (e.g., groceries).
Opportunity Cost: The value of the next-best alternative you give up when making a decision.