25 Investment Terms to Know If You’re a Beginner Investor

Investing can feel overwhelming — not just the actual process of investing, but all the lingo that comes with it. 

If you’re new to investing, terms like “asset allocation” or “exchange-traded funds” can sound like a foreign language. 

But don’t worry, they’re actually not as complicated as you might think. Once you learn these 25 common investing terms, you’ll be a much more confident investor!

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25 Important Investment Terms to Know

If you're looking for a specific term, jump to the definition you need. Otherwise, read all the way through for a complete 101 course on investment lingo!

1. 401(k)
2. Active investing
3. Asset allocation
4. Bear market
5. Bonds
6. Brokerage
7. Bull market
8. Capital gains
9. Compound interest
10. Diversification
11. Dividend
12. Dollar-cost averaging
13. ETFs
14. Growth investing
15. Index
16. Index funds
17. IRA
18. Mutual funds
19. Options
20. Passive investing
21. Price-to-earnings ratio
22. Robo-advisor
23. Short selling
24. Stocks
25. Value investing

There are lots more investment terms that you'll likely come across, but these are the ones you've probably seen or heard the most as you've started diving into investing.

401(k)

If you have a retirement account at work, it’s probably a 401(k). 

A 401(k) is a type of retirement account that allows you to invest directly from your paycheck. 

You can typically choose a traditional or Roth account. With a traditional account, you don’t pay taxes now on the money (but will later when you retire), while Roth accounts are tax-free when you withdraw the money in retirement.

Some employers will match what you invest in your 401(k) account — meaning they will deposit extra funds into your 401(k) to match contributions you put in. This is essentially “free money” that your employer puts toward your retirement. 

Note that most companies also have a 401(k) “vesting schedule” that requires you to work for them for a few years to maintain ownership of those matching funds.

READ MORE: What Is a 401(k)?

Active Investing

Active investing refers to the process of buying and selling investments in an attempt to outperform the overall market. 

This might include trading stocks, buying and selling mutual funds or exchange-traded funds (ETFs), or simply waiting to buy an investment until prices have dropped. 

Active investors use a wide range of tools and information in their investment decisions, including technical charts, order books, company financial reports, and more.

Active investing requires a lot of research to ensure you can adjust your strategy quickly if needed — like if you’ve put too much money into stock that starts performing poorly. 

Funnily, while active investors might feel they have more control over their investments, in most cases, active investors underperform passive inventors over the long run.

READ MORE: Active vs. Passive Investing: Which Is Best?

Asset Allocation

Asset allocation is a measure of how you split up — or “allocate” — your investments between different types of investments. 

It is an important part of your investment strategy as it informs how much of each investment you choose to hold.

You can think of asset allocation as a pie. Each slice represents a percentage of your total investment portfolio. 

For example, you might hold 40% of your portfolio in a stock market index fund, 30% in bond index funds, and 30% in other assets. 

Splitting up your investments adds diversity to your portfolio, which can help lower your risk and achieve better returns in the long run. 

READ MORE: Why Asset Allocation Is Essential for Investing

Bear Market

A bear market is a sustained drop in market prices — usually measured as a 20% decline. While stocks may rise in price during bear markets, the overall price trend will be down.

Bear markets can drop much further than 20% and last several months or more. According to Charles Schwab, bear markets last about 14 months on average

Bear markets can happen for a range of economic or geo-political reasons. Interest rates can also depress markets, with high rates causing the economy to falter (as it did in 2022).

Bonds

Bonds are a type of fixed-income investment that offers you a stable, regular income. 

Bonds are typically government or private debt — these entities issue bonds to borrow money from investors. For example, the U.S. government issues Treasurys to borrow money and will pay you a fixed interest rate over a set period.

You can think of bonds like a regular loan — except you’re the bank. You can purchase a bond by “lending” your money to the government or a private company, and they will pay you interest on that loan. 

Most bonds pay monthly payments, but some allow you to purchase them at a discount and interest is paid once the bond term is up.

READ MORE: ​​What Are Bonds and How Do They Work?

Brokerage

A brokerage (or broker) is a company that offers investment services. 

Brokers offer investment accounts that allow you to invest in different assets. Some brokers might also offer banking and other financial services.

Sometimes the term “brokerage” refers to a specific type of investment account. Brokerage accounts are a type of taxable investment account that can be used to invest in stocks, bonds, ETFs, and other types of investments. 

There are no tax advantages for your investments inside a brokerage account — your dividends and capital gains are all taxable in the year you earned them.

Bull Market

A bull market is a sustained rise in market prices. Bull markets are defined by a 20% rise in prices from a previous market low price. 

Another characteristic of bull markets is the continued buying of investments. During a bull market there is typically positive sentiment from investors and profitable results from publicly traded companies. 

Bull markets tend to last longer than bear markets — Charles Schwab reports that average bull markets last about 60 months. And bull markets average a 165% rise in prices over time.

Capital Gains

Capital gains are how much your investment has risen in value from when you first purchased it to when you sell it. 

For example, if you buy a single stock for $100 and sell it later for $200, you have a capital gain of $100. 

There are two types of capital gains: short-term and long-term. 

• Short-term capital gains kick in when you sell an investment after holding it for less than one year. Short-term capital gains are taxed at your ordinary income tax rate.
• Long-term capital gains kick in when you sell an investment after holding it for at least one year. Long-term capital gains are generally taxed at a lower rate than short-term capital gains (depending on your income level). 

READ MORE: What Are Short-Term vs. Long-Term Capital Gains?

Compound Interest

Compound interest is the process of an investment earning interest, and then adding that interest back to your investment balance. You then earn more interest on that larger balance. 

As Benjamin Franklin put it, “Money makes money. And the money that money makes, makes money.”

For example, if you deposit $1,000 into a savings account earning 5% interest, you would earn $50 that first year. 

But that $50 is now added to your bank account balance. In year two, you are earning 5% interest on the $1,050 balance, which would be $52.50. 

Due to the power of compound interest, each year you will earn more money even without depositing anything else in the account.

Diversification

Diversification refers to owning multiple types of investments in your portfolio. 

Diversifying your investments can include owning multiple assets of a similar type (such as multiple stocks) or owning investments across multiple asset classes (such as a mix of stocks, bonds, real estate, commodities, etc.).

Diversification helps lower your risk because you have a wide range of investments and asset types that can balance each other out. 

While creating a “diversified investment portfolio” might sound scary, it can be as easy as buying a few index funds that own thousands of investments inside each of them.

Dividend

A dividend is the distribution of a company’s earnings to its shareholders. It’s usually in the form of a quarterly cash payment. 

Dividends are paid to investors who own shares of a dividend stock — or who own dividend-paying companies inside a mutual fund or index fund. 

While dividends are usually deposited as cash, you can typically choose to reinvest your dividends into more shares of the same stock.

Dividends are approved by a company’s board of directors. To qualify for a dividend payment, you’ll need to own common stock in the company before the “ex-dividend date” — which is a fancy term referring to the cutoff date for dividend payment eligibility.

READ MORE: What Are Dividends and How Do They Work?

Dollar-Cost Averaging

Dollar-cost averaging is the process of investing small amounts of money into a specific asset or account over time. You continue investing regularly, no matter what the market is doing.

This means you’ll be investing when the market is up — and also when the market drops. 

The benefit of dollar-cost averaging is that you can ignore the market and still may end up with a lower average cost overall than waiting for the “right” time and investing all at once.

READ MORE: How Does Dollar-Cost Averaging Work?

ETFs

Exchange-traded funds (ETFs) are a basket of different investments, such as stocks, bonds, and other assets — similar to how mutual funds work.   

Most ETFs follow a market index, such as the S&P 500, and come with low fees.

ETFs are more tax-efficient than mutual funds because there is a lower turnover of assets and therefore fewer capital gains passing through to investors. 

Many ETFs also offer low share prices or even fractional share investing — making them a great option for beginners who don’t have enough to invest in a mutual fund.

READ MORE: What Are Exchange-Traded Funds (ETFs)?

Growth Investing

Growth investing is a strategy that focuses on investing in high-growth companies. 

Growth companies are typically smaller companies that are expected to grow faster than their larger peers — giving investors higher expected returns. 

But growth companies are also volatile — it’s not unusual to see massive share price drops, up to 50% or more. Growth investing is a higher-risk activity than owning a diversified portfolio.

READ MORE: What Is Growth Investing and How Do You Pick Growth Stocks?

Index

A financial index tracks the prices of a specific set of assets, such as stocks or bonds. They gauge how that particular market is doing.

For example, the Standard and Poor’s S&P 500 index tracks the 500 largest companies in the U.S. by market capitalization. This index is weighted more heavily toward larger companies and holds less of the smaller companies.

These indices help investors track a particular market over time and are used as a benchmark to compare the performance of other investments.

Index Funds

Index funds are mutual funds designed to follow the price movements of a particular market index. This could be a stock market index, bonds market index, a market sector index, or another index created for a specific market. 

Index funds are passively managed because they simply mirror the holdings of a market index. 

For example, an S&P 500 index fund holds the same 500 companies that the index does, with the exact same weightings. 

This passive approach makes index funds much lower in cost, plus they tend to perform better because they aren’t trying to beat the market — just mirror it.

READ MORE: ​​What Are Index Funds and How Do They Work?

IRA

An individual retirement account (IRA) is a tax-advantaged retirement account that allows you to save on taxes while investing for your retirement. 

Unlike a 401(k), these accounts aren’t tied to your employer — you completely own the account and can open one at a broker of your choosing.

You can open a traditional or Roth IRA. Contributing to a traditional account lowers your taxable income, while Roth accounts offer tax-free withdrawals in retirement. 

You can open an IRA as a business owner, too, such as a SEP IRA or SIMPLE IRA. 

The main advantage of an IRA is that you have more flexibility to choose your investments than with a 401(k) account.

READ MORE: 

• What Is a Traditional IRA and How Does It Work?
• What Is a Roth IRA?

Mutual Funds

Mutual funds are a type of investment that pool together investors’ funds to purchase a selection of different assets. 

Mutual funds are usually run by a fund manager and a team of researchers to choose which assets to put in the fund. Mutual funds are actively managed and usually have a stated objective, such as low-risk income assets or high-growth stocks.

Mutual funds typically come with higher expense ratios to help pay for the fund managers. Mutual funds may also be less tax-friendly than index funds due to the high turnover of assets. 

You can usually buy mutual funds through a broker or investment advisor.

READ MORE: Mutual Fund Investing for Beginners

Options

Options are a type of financial contract that allows you to buy or sell a specific asset at a predetermined price in the future. 

When you buy an option contract — say, for a stock — there will be an expiration date and strike price listed. The contract gives you the right to buy or sell that stock at the strike price up until the expiration date.

With most options contracts you can choose whether or not to exercise the “option” to buy or sell the asset. If you choose not to transact, you may need to pay a premium to the buyer (or seller) on the other side of the transaction. 

Options trading involves buying and selling contracts to profit from the trade — or writing options to profit from the premium. 

Passive Investing

Passive investing is a strategy of investing in assets over a long period without selling very often. It’s often called a “buy-and-hold” strategy. 

Passive investors don’t try to time the market, but instead invest in assets they believe in and don’t mind investing in for decades — not days.

Most passive investors choose assets like index funds, since the funds themselves are passively managed and grow along with their respective market index. 

This approach also helps you diversify without having to buy thousands of individual stocks, bonds, and other assets. 

Passive investors pay lower fees and transaction costs than active investors, which is appealing to long-term investors.

Price-to-Earnings Ratio

Price-to-earnings (P/E) ratio refers to the price of a stock or fund compared to the earnings per share issued by the company. 

For example, if a company has a share price of $100 and reports earnings per share of $10, the price-to-earnings ratio is 10:1, or just “10.” 

Investors can use the P/E ratio of a company to gauge if the company is overvalued or undervalued compared to other companies in the market sector. 

Many investors also compare the P/E ratio of a company with the S&P 500 as a benchmark to see if the company has room to grow. Currently, the P/E ratio of the S&P 500 is around 27.

Robo-Advisor

A robo-advisor is an automated investment service that offers financial planning and investment advice. It’s also a fraction of the cost of hiring a financial planner. 

Robo-advisors help you understand your investment risk tolerance, choose a portfolio of funds to invest in, and can help you optimize your taxes, among other services.

While financial planners typically charge around 1% of your total investments annually, robo-advisors charge around 0.25% to 0.35% annually. 

Robo-advisors don’t offer human help, so you’ll have to rely on the robo-advisor’s investment models and strategies to invest.

READ MORE: What Is a Robo-Advisor and Should You Get One?

Short Selling

Short-selling is an investment bet that the price of an asset will decline in value. 

To go “short,” you borrow an investment and agree to purchase it at a later date. This process is automatically handled through a broker that helps locate shares of an asset to borrow and returns them at the end of the trade.

The process of short-selling requires a margin account with a broker and you need to pay interest on the shares borrowed. Once the short position is “opened,” you sell the shares on the open market at current prices — with an agreement to buy the shares back at a future time. 

The position is then closed when you repurchase the shares and return them.

If it sounds complicated, that’s because it is. Short selling can quickly lose you money — especially if you have to pay high margin interest rates and broker commissions. 

You can make money short-selling if the asset declines in value, but the longer you hold the position open, the more interest you pay.

Stocks

Stocks are shares of ownership in a publicly traded company that you can buy and sell through a stock market exchange. 

Companies issue stocks to raise capital and grow the company — and investors buy stocks to benefit from that growth. Owning a stock allows you to receive dividends from the company (if any) and when the value of that company rises, the stock price will rise as well.

Stock is bought and sold through various exchanges, including the New York Stock Exchange or NASDAQ. 

You can invest in stocks through an investment account with a broker such as Vanguard or Fidelity.

Value Investing

Value investing focuses on finding companies that are considered “undervalued” and are poised for growth. 

Value investors review company fundamentals, such as price-to-earnings ratio, price-to-book value, and other analyses that help them understand if the business is undervalued.

Value investors believe that markets can overreact to negative news, which lowers stock prices. This allows value investors to buy company stocks at a discounted price and profit in the future. 

Warren Buffett is probably the world’s most famous value investor who built his fortune by finding undervalued companies. 

The Bottom Line

See, investment terms aren’t as scary as you thought! Yes, there are lots of terms you can learn if you really want to dig deep into the world of investing, but you actually don’t need to know everything to get started.

For tips on investing (without having to know everything about investing!), check out these episodes of the Erika Taught Me podcast:

• How To Invest for Beginners (Step by Step)
• Investing Advice from the Most Powerful Woman on Wall Street
• Investing in the Stock Market Explained: A Guide For Beginners

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