A general financial glossary with terms clearly defined and explained is provided on this page. It covers stocks, bonds, derivatives, market finance, corporate finance, banking, financial risk, econometrics, among others.
Name of clause in a property insurance policy that explicitly prohibits the insured from abandoning a damaged property to the insurer for repair and disposal. In this case, repair or disposal of the property is under the responsibility of the insured, except if the insurer gives the insured another possibility.
The component of the return that is not due to systematic influences. In other words, the abnormal return is the difference between the actual return of a portfolio or a security and the return expected to result from market movements.
The return of a security over a certain period of time. Absolute return differs from relative return because it is concerned with the return of a particular asset and does not compare it to any other measure or benchmark.
Issue of an official process in which a regulatory organization determines whether an entity seeking to provide services, subject to that organization's authority, meets acceptable standards for such a purpose.
Interest that has accumulated between the most recent payment and the sale of a bond or other fixed income security. At the time of sale, the buyer pays the seller the bond's price plus accrued interest.
Trading system that utilizes very advanced mathematical models to make transaction decisions in the financial markets. The programs built into the model attempt to determine the optimal time for an order to be placed that will cause the least amount of impact on a stock's price. Large blocks of shares are usually purchased by dividing the large share block into smaller lots and allowing the complex algorithms to decide when the smaller blocks are to be purchased.
The excess return of a security or fund on its risk adjusted performance (generally compared to a benchmark index); it can also mean the value that a fund manager is expected to add to a fund. A high value for alpha implies that the stock or fund has performed better than would have been expected given its risk.
Alternative Investment Funds (AIF)
Defined by the European Commission as all funds that are at present not harmonized under the UCITS Directive, see UCITS.
Alternative Risk Transfer
In insurance, alternative risk transfer (ART) methods are risk management strategies which allow to finance or transfer the risk to a re-insurer or to the financial market, through alternative carriers or through financial products.
An option which can be exercised at any time during the life of the contract (between the purchase date and the expiration date). A European option can only be exercised at its maturity.
Form of contract sold by life insurance companies that guarantees a fixed or variable payment to the annuitant at some future time, usually retirement.
The action of profiting without any risk from the correction of price of identical or similar financial instruments, on different markets or in different forms.
Arbitrage Pricing Theory (APT)
Sophisticated model of the relationship between expected risk and expected return. The model is grounded in the theory of absence of arbitrage. It says that the return on an asset is equal to the risk-free return plus a collection for risk premiums, associated with specific risk factors.
Also known as serial correlation, it measures the degree of similarity between a given time series and a lagged version of itself over successive time intervals.
AutoRegressive Conditional Heteroskedasticity (ARCH)
Developed by the famous economist Robert F. Engle, ARCH models are used to model financial time series with time-varying volatility, such as stock prices. This type of models assumes that the variance of the current error term is related to the size of the previous periods' error terms, giving rise to volatility clustering.
Price at which a security or commodity is offered for sale on an exchange or in the over-the-counter market. Generally, it is the lowest round lot price at which a dealer will sell.
The process of dividing portfolio among different kinds of assets, such as stocks, bonds and cash, to optimize the risk/reward tradeoff based on an individual's or institution's specific situation and goals.
A situation where certain values of variables tend to occur at irregular frequencies and the mean, median, and mode will occur at different points. This is said to exhibit skewness. Qualitatively, a negative skew indicates that the tail on the left side of the probability density function is longer than the right side and the bulk of the values lie to the right of the mean. A positive skew indicates that the tail on the right side is longer than the left side and the bulk of the values lie to the left of the mean. Conversely, a symmetric distribution, when depicted on a graph, will be shaped like a bell curve and the two sides of the graph will be symmetrical. Investment return data typically has an asymmetric distribution.
An option is said to be at the money when the exercise price or strike price is the same as that of the underlying instrument. For a call option, when the option's strike price is below the market price of the underlying asset. For a put option, when the strike price is above the market price of the underlying asset.
The validation of a model by feeding it historical data and comparing the model's results with historic reality. The process of comparing model predictions with actual experience. One limitation is that it is often possible to find a model that would have worked well in the past, but will not work well in the future.
Pricing structure in commodities or foreign-exchange trading in which deliveries in the near future have higher price than those made later on. Backwardation occurs when demand is greater in the near future.
A government owned entity that takes over and liquidates toxic assets from failed or declining financial institutions to leave them with a clean balance sheet. The strategy was last used during the Savings and Loan crisis of 1980s where this entity was called the Resolution Trust Corporation.
Balance of Payments
A statistical compilation formulated by a sovereign nation of all economic transactions between residents of that nation and residents of all other nations during a stipulated period of time, usually a calendar year.
A series of unexpected cash withdrawals caused by a sudden decline in depositor confidence or fear that the bank will be closed by the chartering agency, i.e. many depositors withdraw cash almost simultaneously. Since the cash reserve a bank keeps on hand is only a small fraction of its deposits, a large number of withdrawals in a short period of time can deplete available cash and force the bank to close and possibly go out of business.
A short-term credit investment created by a nonfinancial firm and guaranteed by a bank as to payment. Acceptances are traded at discounts to face value in the secondary market. These instruments have been a popular investment for money market funds. They are commonly used in international transactions.
Inability to pay debts. In bankruptcy of a publicly owned entity, the ownership of the firm's assets is transferred from the stockholders to the bondholders.
The risk that a firm will be unable to meet its debt obligations. Also referred to as default or insolvency risk.
Option contracts that remain dormant until a trigger point (the barrier price) is reached, at which point the call or put option is activated, and results either in a long or short options position, or in the automatic exercise of an options position. These are exotic options.
Basel Committee on Banking Supervision housed at the Bank for International Settlements.
Unexpected changes in the basis between the placing and the lifting of a hedge. Basis risk is in excess of convergence.
Basket Credit Default Swap
A credit derivative contract that provides a payoff when any of the multiple reference entities default. The contract specifies the number of defaults after which the payoff is generated, based on which the instrument is classified as first-to-default CDS, second-to-default CDS or more generally nth-to-default CDS.
Any market in which prices exhibit a declining trend. For a prolonged period, usually falling by 20% or more.
A standard used for comparison of different figures or to indicate an overall trend.
The beta measures the sensitivity of an asset or fund to market movements (generally a benchmark). A beta below 1 can indicate either an investment with lower volatility than the market, or a volatile investment whose price movements are not highly correlated with the market. A beta above one generally means both that the asset is volatile and tends to move up and down with the market.
An option that pays out a fixed amount if the underlying financial instrument on which it is based reaches the strike price either at expiry, or at any time during the life of the option. Also called an all-or-nothing option, digital option or one-touch option.
Black-Scholes Option Pricing Model
Model developed by Fisher Black and Myron Scholes to gauge whether option contracts are fairly valued. The model incorporates such factors as the volatility of a security's return, the level of interest rates, the relationship of the underlying stock's price to the strike price of the option, and the time to maturity.
Wholesale trading that allows traders to buy or sell very large numbers of securities bilaterally outside exchanges or electronic markets. Because block trading is typically between two parties, often between institutional investors and facilitated by an investment bank, prices are set with certainty and execution is done without delay. It avoids the sale or purchase of very large number of securities having too much undesired impact on the price.
Common stock of a nationally known company that has a long record of profit growth and dividend payment and a reputation for quality management, products, and services. Blue chip stocks typically are relatively high priced and low yielding.
A bond is a debt instrument by which a government or company (or other entity) borrows money from an investor for a defined period of time at a fixed interest rate. The height of the interest rate is now determined by the market based on the perceived riskiness of the entity. Bonds are used by companies, municipalities, states and governments to finance a variety of projects and activities. Bonds can be resold on a secondary market.
Speculative or market bubbles occur when prices rise far higher than can be justified by fundamentals and for no other reason than that investors believe that something bought today can be sold at a higher price in the future. Bubbles can occur in any tradable item or instrument, from tech stocks to works of art. The term is used because, like a bubble, the prices will reach a point at which they pop and collapse violently.
Prolonged rise in the prices of stocks, bonds or commodities. Bull markets usually last at least a few months and are characterized by high volume trading.
An option that gives the holder or buyer the right but not the obligation to buy an underlying instrument at an agreed price or strike price within a specified time. The seller or writer has the obligation to sell the underlying instrument if the holder exercises the option.
A cap (also known as interest rate cap) refers to a series of European interest call options (called caplets), with a particular interest rate, each of which expire on the date the floating loan rate will be reset. At each interest payment date the holder decides whether to exercise or let that particular option expire. In a cap, the seller agrees to compensate the buyer for the amount by which an underlying short-term rate exceeds a specified rate on a series of dates during the life of the contract. Caps are used often by borrowers in order to hedge against floating rate risk.
Capital Asset Pricing Model (CAPM)
Sophisticated model of the relationship between expected risk and expected return. The model is grounded in the theory that investors demand higher returns for higher risks. It says that the return on an asset is equal to the risk-free return plus a risk premium.
Regulations on capital requirements set criteria for minimum capital reserves for banks, so that every loan granted is being covered by a certain percentage of the bank’s own money. This way the bank can cover defaults on loans and not go bankrupt when too many borrowers default. The Basel Committee on Banking Supervision (BCBS) started to work on a new Basel Capital Accord in 1999. After five years of consultations, the Basel Capital Accord II (Basel II) was finalized by the BCBS in June 2004. Basel II not only sets the amount of capital reserves, but also regulates how banks should calculate the risks of the loan for which capital reserves are needed, and describes how supervisors should deal with the Basel II regime.
Rate of interest used to convert a series of future payments into a single present value.
The amount by which a financial obligation or liability exceeds the amount of cash that is available.
European interest call option that sets a maximum future interest rate for an interest rate derivative. A caplet is analyzed as a call option, with the duration of the option typically set to coincide with interest rate payment dates. A series of caplets is called a cap. Caplets are used by investors to hedge against the risk associated with floating interest rate financial products, though investors are more likely to invest in a cap rather than single caplets.
It is an insurance or reinsurance company owned by a corporation or group of companies which are not in the insurance sector themselves. The captive insures the risks of its parent(s).
This type of derivatives has pollution permits as the underlying. The emission trading is based on the principle that polluting companies buy carbon credits from those who are polluting less somewhere in the world and have therefore pollution permits to sell. Financial engineers already developed complex financial products, such as derivatives, to speculate and such products are now seen as a potential financial bubble.
Committee of European Banking Supervisors. This committee consists of the banking supervisors, like central banks and other supervisory authorities of the EU Member States. This committee is currently revised and will be turned into the European Banking Authority.
Committee of European Insurance and Occupational Pensions Supervisors.
Central Counterparty (CCP)
Entity that interposes itself between the counterparties to the contracts traded in one or more financial markets, becoming the buyer to every seller and the seller to every buyer. CCP clearing is a central issue nowadays in the discussion on Credit Default Swaps trading.
Committee of European Securities Regulators. This committee consists of the security supervisors of the EU Member States. This committee is currently revised and will be turned into the European Securities and Markets Authority.
Process by which obligations arising from a financial security are managed over the lifetime of a financial contract. It is also the way by which risks are outlined and mitigated. Until now, credit default swap (CDS) trades – like most over-the-counter (OTC) financial derivatives – are predominantly cleared bilaterally between two contracting parties.
Assets used as a form of security for a loan. In cases of default by the borrowers the lenders have the legal right to claim those assets and sell them to repay the loan.
Collateralized Debt Obligation (CDO)
Type of structured asset-backed security (ABS) with multiple "tranches" that is issued by special purpose entities and collateralized by debt obligations including bonds and loans.
Collective Investment Schemes
Collective investment schemes pool together many different individuals’ savings and then invest them collectively. For example, mutual funds or investment funds, commodity index funds or exchange-traded funds (ETC) are all examples of collective investment schemes. It is important to note that hedge funds and private equity funds are not classified as collective investment schemes and some collective investment schemes are not regulated by UCITS Directives.
Collective Risk Model
Term used in insurance to define a probability model for portfolio of policies, which consider the number of claims generated by the portfolio rather than the individual policies (see also Individual Risk Model).
Bulk goods such as grains, metals, and foods traded on a commodities exchange or on the spot market.
Commodity derivatives have commodities, such as oil and agricultural products, as the underlying value of a contract; a derivative. The prices of commodities have become a target of speculation and are now instruments for investors to diversify portfolios and reduce risk exposures.
Commodity Index Fund
Fund for (institutional) investors who get a return on their investment based on the performance, i.e. the value, of the commodity index that the fund is tracking and sometimes managing. A commodity index is a price indicator that reflects the price of a composition of commodity futures that are traded on exchange. There many different commodity index funds. The managers of commodity index funds buy to a certain extent futures contracts of commodities that are included in the tracked commodity index.
Units of ownership of a public corporation. Owners typically are entitled to vote on the selection of directors and other important matters as well as to receive dividends on their holdings. In the event that a corporation is liquidated, the claims of secured and unsecured creditors and owners of bonds and preferred stock take precedence over the claims of those who own common stock.
Measure of how correlation evolves over time. The model that is used to obtain this measure is the DCC. Exactly like correlation, this number lies between -1 and 1. It has been observed that correlation among financial assets is not constant over time and that it tends to increase in periods of crises.
Pricing situation in which futures prices get progressively higher as maturities get progressively longer, creating negative spreads as contracts go farther out. The increases reflect carrying costs, including storage, financing, and insurance.
A bond that is convertible into shares at a pre-set conversion price. Convertible bonds may be used for arbitrage purposes by those who spot a difference between the value of the bond and the underlying shares.
A term which describes the degree to which two variables (or returns) move together. A correlation of 1 means that they move around their average together exactly, while a correlation of minus 1 means that they move around their average in exactly the opposite direction from each other.
The risk that a counterparty to a financial transaction will fail to perform according to the terms and conditions of the contract, thus causing financial loss.
Statistical term for the correlation between two variables multiplied by the standard deviation for each of the variables.
Constant Proportion Portfolio Insurance (CPPI) is a hedging strategy applied to a portfolio that is designed to ensure that even in a worst case scenario its value does not drop below the minimum value set by the portfolio owner, named the “cushion value”.
Formal evaluation of a company's credit history and capability of repaying obligations.
Credit Rating Agency (CRA)
Credit bureau that estimates the market value and the credit worthiness of an individual, a company, a financial product or a country. A credit rating is often used to assess the ability of a potential borrower to repay a loan or other debt, and is made by a CRA at the request of the lender or issuer of a financial product. A low credit rating indicates a high risk of defaulting on a loan or other debt (e.g. a bond), and thus leads to high interest rates, or the refusal of a loan by the creditor.
The risk arising from the probability of borrowers and/or counterparties failing to meet their repayment commitments (including accumulated interest).
The gap between the yields on corporate bonds and government loans with similar characteristics. Historically, the spread increases during an economic slowdown and decreases in economic growth periods.
Credit Default Swap (CDS)
Financial swap agreement where the seller of the CDS compensates the buyer in the event of a loan default or other credit event. The buyer of the CDS makes a series of payments (the CDS "fee" or "spread") to the seller and, in exchange, receives a payoff if the loan defaults.
Dark Pool Trading
Trading of large volumes of securities by institutional investors who remain anonymous during the trade. Dark pools are inaccessible to the public and orders are executed on closed trading venues away from the central exchanges. The bulk of dark pool liquidity is represented by block trades on the basis of anonymity.
Stocks and bonds that are more stable than average and provide a safe return on an investor's money. When the stock market is weak, defensive securities tend to decline less than the overall market.
The ratio comparing the change in the price of the underlying asset to the corresponding change in the price of a derivative. Sometimes referred to as the "hedge ratio".
Sum of money lodged at a bank or other depository institution. The simplest forms of deposits are savings of individuals. The money can be withdrawn immediately or at an agreed time. A deposit can also refer to money transferred in advance to show intention to complete the purchase of a property.
Institutions that are entrusted with the duty of “safekeeping” and “supervision” of the assets belonging to a collective investment scheme. For example, they keep records of where and how a given fund has invested. These assets may also be physically stored by the depository, i.e. depositories may also act as custodians. However, depositories may choose to sub-contract these duties to a sub-custodian. Depositories are frequently involved with the administration of the fund, e.g. they may be responsible for ensuring that dividends, from shares and interest payments from bonds held, are received. They also oversee the issuance of “units” of a fund, which can be thought of as shares in a fund that investors can purchase, and any subsequent sales of these units.
A financial instrument whose characteristics and value depend upon the characteristics and value of an underlying asset, typically a commodity, bond, equity or currency. Advanced investors sometimes purchase or sell derivatives to manage the risk associated with the underlying security, to protect against fluctuations in value, or to profit from periods of inactivity or decline.
Dynamic Conditional Correlation (DCC)
Multivariate model that allows the modelling of time varying correlation. The DCC also allows a modelling of covariances. Since covariances are a key ingredient for OLS regressions, the DCC model allows for an efficient estimation of time varying parameter models.
Disability – Morbidity Risk
In insurance, the risk of loss on the value of insurance liabilities due to adverse changes in the disability, sickness and morbidity rates.
Diversification means reducing risk by investing in a variety of assets following the principle: “don't put all your eggs in one basket". Diversification consists in choosing assets with low correlation levels typically by investing in assets from different countries, sectors, styles and in different asset classes.
That part of a company's after-tax earnings that is decided to be distributed to shareholders.
Downside Deviation is linked with the deviation of fund returns when considering only negative returns (or negative excess returns depending on the threshold) over the past. Downside Deviation provides information about the volatility of the returns that are under zero or a specific threshold. This is a useful information since returns are not symmetric around their average and since investors are loss averse.
Portfolio that has a maximum expected return for a given level of risk or a minimum level of risk for a given expected return. It is calculated taking into account the expected return and standard deviation of returns for each security, as well as the covariance of returns between different securities in the portfolio.
European Insurance and Occupational Pension Authority.
Equity is the holding or stake that shareholders have in a company. Shareholders equity is calculated by subtracting total liabilities from total assets. Equity capital raised by the issue of shares is one of the two main sources of finance for a company, the other is debt.
Euronext was formed by the merger of the Amsterdam and Brussels stock exchanges and the Paris Bourse in 2000. It acquired the London International Financial Futures and Options Exchange (LIFFE) in 2001 and the Lisbon stock exchange in 2002. The various derivatives contracts were transferred to the LIFFE CONNECT electronic platform from 2003. In 2006 it merged with the NYSE Group to form NYSE Euronext.
European Financial Stability Facility (EFSF)
It is a special purpose vehicle financed by members of the Eurozone to address the debt crisis of European governments, which created financial instability and lack of access by governments to loans. It was agreed by the 27 member states of the European Union in May 2010 in order to preserve financial stability in Europe by providing financial assistance to Eurozone states in financial or economic difficulty. Treasury management services and administrative support are provided by the European Investment Bank through a service level contract.
European Financial Reporting Advisory Group (EFRAG)
It was set up in 2001 to assist the European Commission in the endorsement of International Financial Reporting Standards (IFRS), as issued by the International Accounting Standards Board (IASB) by providing advice on the technical quality of IFRS. EFRAG is a private sector body set up by the European organizations prominent in European capital markets, known collectively as the ‘Founding Fathers’ or Member body organizations.
European Market Infrastructure Regulation (EMIR)
The new European regulation on over-the-counter (OTC) derivatives, central counterparties and trade repositories, to come into force by the end of 2012 at the earliest. It requires that standardised OTC derivatives are cleared through a central counterparty in the European Union in an effort to reduce counterparty and operational risk in the OTC derivatives market, which was identified as a contributing factor to the financial crisis.
European System of Central Banks (ESCB)
It is composed by the European Central Bank (ECB) and the national central banks of all 27 EU Member States.
European Systemic Risk Board
supervisory EU body responsible for the macro-prudential supervision of the financial system within the Union. The ESRB monitoring should result in warnings about risks for the financial system that arise from macroeconomic developments and developments within the financial system. Its objective is to contribute to the prevention or mitigation of systemic risks to financial stability and to prevent financial crisis in the Union. The seat of the ESRB is in Frankfurt am Main, serviced by the European Central Bank.
Rate at which one currency may be converted into another.
Exchange Traded Derivatives
Products that are traded via specialized derivatives exchanges or other exchanges. A derivatives exchange acts as an intermediary to all related transactions, and demands a deposit from both sides of the trade to act as a guarantee to potential credit risks.
Fund whose shares are traded on an exchange. The price of ETF shares changes throughout the day as they are bought and sold on an exchange. The value of the fund and its shares is related to the value of an index that it tracks (similar to an index fund), a commodity or a basket of assets which the fund buys with the money of the investors who buy shares of the fund. Synthetic ETFs base their value on an index or an asset but the money invested in that fund is not used to buy the named assets but to buy (or to swap with) other assets.
Interval between the announcement and the payment of the next dividend. An investor who buys shares during that interval is not entitled to the dividend. Typically, a stock's price moves up by the dollar amount of the dividend as the ex-dividend date approaches, then falls by the amount of the dividend after that date.
Exposure is the amount of risk the holder of an asset or security is faced with as a consequence of holding the security or asset.
Value of a bond, note, mortgage or other security as given on the certificate or instrument. The face value is the amount on which interest payments are calculated. Thus, a 10% bond with a face value of $1000 pays bondholders $100 per year.
In the futures market, fair value is the equilibrium price for a futures contract. This is equal to the spot price after taking into account compounded interest (and dividends lost because the investor owns the futures contract rather than the physical stocks) over a certain period of time.
Fair value Accounting
Also referred as mark-to-market accounting, it is a principle of the International Financial Reporting Standard (IFRS) and implies that company assets are valued on the basis of the price they would fetch if they were offered for sale on the market right now instead of what they would be valued were the company to hold on to them until maturation.
Situations where assets or products are traded with highly inflated values, an example of this is the case of the American housing prices.
The process of diffusion of a market- or country-specific shock or crisis to other financial markets or countries.
These are models for the correlation analysis between financial variables or for the relationships representation between financial companies. These models provide a stylized but accurate representation of financial and economic systems, through a set of nodes and links.
Federal and state governments have several institutions that regulate and oversee financial markets and companies. These agencies each have a specific range of duties and responsibilities that enable them to act independently of each other while they work to accomplish similar objectives.
Financial Stability Board (FSB)
International body that coordinates at the international level the work of national financial authorities and international standard setting bodies in order to preserve financial stability. It also advises and promotes the implementation of effective regulatory, supervisory and other financial sector policies in the interest of financial stability, especially through recommendations to the G20 about the reform and operation of the global financial system. The Board includes supervisors and finance ministries of all G-20 countries, the FSF members, and the European Commission. It is being critically monitored by FSB Watch.
Financial Transaction Tax (FTT)
Tax applied to financial transactions, usually at a very low rate. A financial transaction applies to the exchange of financial instruments and transactions on the financial markets. The financial instruments in question can for instance include securities, bonds, shares and derivatives. They do not include the transactions typically undertaken by private households or businesses. The particularities of an FTT application are dependent on legal requirements and are at the core of the debate about the introduction of an FTT within the EU.
Flight to Quality
At times of great market uncertainty, the demand for safe and secure assets rises sharply.
Floating Rate Note
Debt instrument with a variable interest rate. Interest rate adjustments are made periodically, often every six months, and are tied to a money-market index such as Treasury bill rates. Floating rate notes usually have a maturity of about five years.
A floor (also known as interest rate floor) refers to a series of European put options (or floorlets) on a specified reference rate, usually LIBOR. The buyer of the floor receives money if on the maturity of any of the floorlets, the reference rate is below the agreed strike price of the floor.
European style put option where the holder collects payments for every period the interest rate is below the predetermined strike. Typically, lenders employ floorlets to hedge against falling interest rates on loans with a variable rate.
A forward contract, colloquially known as a forward, is an agreement to buy or sell a commodity, security or financial instrument at a specified future date at a specified price, on an over the counter (OTC) market.
An individual or company involved in managing an investment fund.
A financial contract obligating the buyer to purchase an asset (or the seller to sell an asset), such as a physical commodity or a financial instrument, at a predetermined future date and price, on an organized market.
The rate of change for delta with respect to the underlying asset's price. Gamma is an important measure of the convexity of a derivative's value, in relation to the underlying. In a delta-hedge strategy, gamma is sought to be reduced in order to maintain a hedge over a wider price range. A consequence of reducing gamma, however, is that alpha too will be reduced.
An asset-liability corporate hedge based on net assets, or the amount of a company’s shareholders’ equity. Less sophisticated than placing one hedge on the total assets of the company, and another on the total liabilities, gap hedging is the practice of simply hedging the net of the two, or owners’ equity. Assumes the volatility of assets and the volatility of liabilities are equal.
Generalized Autoregressive Conditional Heteroskedasticity (GARCH)
A natural generalization of the ARCH (Autoregressive Conditional Heteroskedastic) process introduced in Engle (1982) to allow for past conditional variances in the current conditional variance equation.
General Price Level
An index that measures the change in price of goods in an economy over time and hence the purchasing power of the currency of the country. For instance, in the U.S. it is represented by the CPI (Consumer Price Index) maintained by the U.S. Department of Labor.
Models that optimize rules by mimicking the Darwinian Law of survival of the fittest. A set of rules is chosen from those that work the best. The weakest are discarded. In addition, two successful rules can be combined (the equivalent to genetic crossovers) to produce offspring rules. The offspring can replace the parents, or they will be discarded if less successful than the parents. Mutation is also accomplished by randomly changing elements. Mutation and cross-over occur with low probability, as in nature.
Risk that arises when an issuer issues policies concentrated within certain geographic areas, such as the risk of concentrating their coverage in hurricane or earthquake prone regions.
Geometric Mean Return
Also called the time-weighted rate of return, a measure of the compound rate of growth of the initial portfolio market value during the evaluation period, assuming that all cash distributions are reinvested in the portfolio. It is computed by taking the geometric average of the portfolio subperiod returns. Also called the time-weighted rate of return or Dietz algorithm.
Dimensions of risk involved in taking a position in an option (or other derivative). Each risk variable is a result of an imperfect assumption or relationship of the option with another underlying variable. Various sophisticated hedging strategies are used to neutralize or decrease the effects of each variable of risk.
Gross Processing Margin (GPM)
Refers to the difference between the cost of a commodity and the combined sales income of the finished products that result from processing the commodity. Various industries have formulas to express the relationship of raw material costs to sales income from finished products.
In insurance, it is the risk arising from the underwriting of health insurance obligations, following from both the perils covered and the processes used in the conduct of business.
Heavy-tailed Distribution (fat-tailed)
A distribution in which the extreme portion of the distribution (the part farthest away from the median) spreads out further relative to the width of the center (middle 50%) of the distribution than is the case for the normal distribution. For a symmetric heavy-tailed distribution, the probability of observing a value far from the median in either direction is greater than it would be for the normal distribution. The term Heavy tailed describes a distribution with a significant excess kurtosis.
A hedge fund is an investment fund which aims to produce absolute returns and whose trading methods include the use of short-selling, program-trading, swaps, arbitrage and derivatives. These funds are often domiciled in tax havens to be more flexible in their management.
Hedging, the act of taking out a hedge, is a strategy designed to minimise risk. A hedge usually takes the form of a transaction in one market or asset in order to offset possible losses in another.
Settlement risk, named after the German bank, Herstatt, which collapsed in 1974, and whose failure highlighted the dangers and risks in settlements.
Named a process when it has a non-constant (time-varying) second moment (variance).
High Frequency Trading (HFT)
Refers to a trading program that uses powerful computers to transact a large number of orders at extremely fast speeds. Typically, the traders who execute a transaction at the fastest speed (as fast as within as 0.005 time of a second) will be more profitable than traders with slower execution speeds. Already in 2009, it was estimated more than 50% of stock exchange volume comes from high-frequency trading orders. High-frequency trading often uses complex algorithms to analyse multiple markets and execute orders based on market conditions.
Term that describe investments with the highest quality ratings - usually AAA or AA.
In the context of hedge funds, a style of management that focuses on low rated fixed income securities.
A statistical measure of the volatility (specifically, the annualized standard deviation) of a futures contract, security, or other instrument over a specified number of past trading days.
An option spread involving the simultaneous purchase and sale of options of the same class and strike prices but different expiration dates. See Diagonal Spread, Vertical Spread. Also called Time Spread or Calendar Spread.
A convertible security whose optioned common stock is trading in a middle range between the par value of the root security and the market value of the security it is convertible into, causing the convertible security to trade with the characteristics of both a fixed income security and a common stock instrument.
That part of a security's risk that is specific to the security and that can be eliminated or controlled by diversification; also known as asset-specific risk.
Illiquidity means that a financial asset cannot easily be sold or exchanged for cash without a substantial loss in value. Illiquid assets also cannot be sold quickly because of a lack of ready and willing investors or speculators to purchase the asset. The lack of ready buyers also leads to larger discrepancies between the asking price (from the seller) and the bidding price (from a buyer) than would be found in an orderly market.
The volatility the market expects in the return of a security. It is a measure of the dispersion, but not the direction, of the future price movements. It tends to increase in bearish markets and fall in bullish ones.
Inclusive finance focuses on expanding access by poor and vulnerable populations to affordable and responsible financial products and services. The target groups also include organizations or businesses that are often unable to gain access to financial products and services such as micro- and small-enterprises. A range of basic financial products and services are incorporated within the remit of inclusive finance including savings, credit, insurance, remittances, and payments.
Losses that have occurred within a stipulated time period.
An option is described as being In-the-Money when the price of the underlying instrument is above the strike or exercise price for a call option and below the strike price for a put option.
A composite of prices or indicators designed to measure changes in a market or an economy.
Individual Risk Model
Term used in insurance to define a probability model for portfolio of policies, where the aggregate claim amount is considered as the sum of the claim amounts from the individual policies that comprise the portfolio (see also Collective Risk Model).
Inflation is a rise in the prices of goods and services. It can be caused by an increase in the money supply, by an increase in demand due to government spending or by a contraction in the supply of goods.
It is an agreement between two parties, i.e. the insured and insurer, where the insured party pays an amount of money (premium) to the insurer at the start of a time period (cover period) and the insurer pays a claim amount to the insured party each time an event (ensured event) occurs.
Insurance Linked Security (ILS)
It is an alternative risk transfer product, which allows insurers to transfer actuarial risks (e.g., catastrophic, mortality, longevity) to the capital markets via a bond or option issue. In an insured-linked bond the buyer typically forfeit the interest and the principal on the bond to the insurer.
The charge or the return on an asset or debt expressed as a percentage of the price or size of the asset or debt. It is usually expressed on an annual basis.
International Securities Identification Number (ISIN)
The ISIN code is a real identity card, it is specific to each asset or financial product (equity, bond, warrant...). With 12 characters, the 2 firsts are represented by letters which indicate the country where the security was issued, permitting the investors to recognize the market from which it depends and where his market valorization is done.
An index that uses the capital asset pricing model to determine whether a money manager outperformed a market index. The alpha of an investment or investment manager.
An agreement between two or more firms to share risk and financing responsibility in purchasing or underwriting securities, or an account owned jointly by two or more persons at a bank or brokerage house.
A bond that is guaranteed by the issuer and a party other than the issuer.
Loans of $1 billion or more. Or, loans that exceed the statutory size limit eligible for purchase or securitization by the federal agencies.
Debt whose holders have a claim on the firm's assets only after senior debt holder's claims have been satisfied.
A debt or equity issue from one corporation over which the issue of another firm takes precedence with respect to dividends, interest, principal, or security in the event of liquidation.
A mortgage that will be satisfied only after more senior mortgages have been satisfied. E.g., a first mortgage will be satisfied prior to a second or a third mortgage.
A bond with a speculative credit rating of BB (S&P) or Ba (Moody's) or lower. Junk or high-yield bonds offer investors higher yields than bonds of financially sound companies. Two agencies, Standard & Poors and Moody's Investor Services, provide the rating systems for companies' credit.
The fair market price of an asset.
The Commodity Futures Symbol which represents the May Delivery Month.
The ratio of the dollar price change in the price of an option to a 1% change in the expected volatility.
A valuation model developed by the mathematician Valery A. Kholodnyi to be used when valuing and hedging electric power price risks in environments of extreme price spikes.
An additional feature of a debt obligation that increases its marketability and attractiveness to investors.
A commercial implementation of the asset value model of credit risk. KMV was a boutique software firm that is now owned by Moodys.
An option feature which triggers the activation of an option contract. Also referred to as Down-and-In and Up-and-In, depending on the structure.
An option that- is worthless at expiration if the underlying commodity or currency price reaches a specific price level.
Measures the fatness of the tails of a probability distribution. A fat-tailed distribution has higher-than-normal chances of a big positive or negative realization. Kurtosis should not be confused with skewness, which measures the fatness of one tail. Kurtosis is sometimes referred to as the volatility of volatility.
In insurance, it is the risk of loss on the value of insurance liabilities due to adverse changes in the rates of policy lapses, terminations, renewals and surrenders.
Use of borrowed funds at a fixed rate of interest in an effort to boost the rate of return from an investment. Leverage takes the form of a loan or other borrowings (debt), the proceeds of which are (re)invested with the intent to earn a greater rate of return than the cost of interest. Increased leverage also causes the risk on an investment to increase. Leverage is among others used by hedge and private equity funds. This means that they finance their operations more by debt than by money they actually own. The leverage effect is the difference between return on equity and return on capital employed (invested).
Main practice of private equity funds. It implies that a healthy company is bought with borrowed money. The ratio of what is invested by the fund and what is borrowed money for a buy-out is usually around 25% (invested) to 75% (borrowed) . As a result, a company is saddled with an enormous debt and the private equity fund starts lending money to repay the money that was borrowed to buy the company. The interest payments are at the cost of the company and are often eligible for tax deduction. As a result of the amount of interest payments, the balance sheet of the company is negative. Such an artificially created loss often leads to a tax rebate. Moreover, the artificially created losses are used as an argument to cut costs at the expense of workers, research and development, environment or consumers. The company structure is overhauled and certain company divisions and assets are sold. After such an overhaul the company is sold to the highest bidder.
Life Expense Risk
In insurance, it is the risk of loss on the value of insurance liabilities due to adverse changes in the expenses incurred in servicing insurance or reinsurance contracts.
Life Catastrophe Risk
In insurance, it is the risk of loss on the value of insurance liabilities due to adverse changes in the value of insurance liabilities, resulting from the significant uncertainty of pricing and provisioning assumptions related to extreme or irregular events.
Cash and its equivalents as well as other assets that can be easily converted into cash, or liquidated. Market liquidity refers to the ease with which a security can be bought or sold quickly and in large volumes without substantially affecting the market price.
Ownership of a security, giving the investor the right to transfer ownership to someone else by sale or by gift; the right to receive income paid by the security, and the right to any profits or losses as the security's value changes.
Loss Given Default (LGD)
This is an estimate of the amount of the exposure at default that will not be recovered. This also includes other economic costs such as legal costs.
In insurance, it is the risk of loss on the value of insurance liabilities due to adverse changes in the mortality rates, where a decrease in the mortality rate implies an increase in the value of insurance liabilities.
Authorization or instruction to proceed with an undertaking or to take a course of action.
Brokerage account allowing investors to buy securities with money borrowed from the broker. By using leverage in such a way, investors can magnify both gains and losses.
Demand that a customer deposit enough money or securities to bring a margin account up to the initial margin or minimum maintenance requirements.
Markets in Financial Instruments Directive (MiFID)
Regulates financial markets (e.g. exchanges), trading practices and investment (advisory) services and related financial products (including derivatives), suppliers and marketing practices. MiFID aims at protecting the integrity of the financial markets, protecting investors e.g. to get the best prices, providing a single market in the EU for financial instruments to compete, and improving transparency.
An individual or firm that stands ready to immediately trade in a security at publicly quoted bid and ask prices, either on an exchange or an over the counter (OTC) market.
See fair value accounting.
The length of time between the issue of a bond or other security and the date on which it becomes payable in full. Most bonds are issued with a fixed maturity date. Those without one are known as perpetual.
The mean, or more accurately the arithmetic mean, is the sum of a set of values divided by the total number of values. The mean is what is meant in everyday usage by the word average.
Rate of acceleration of an economic, price, or volume movement. The idea of momentum in securities is that their price is more likely to keep moving in the same direction. An economy with strong growth that is likely to continue is said to have a lot of momentum.
Money Market Funds (MMF)
mutual investment funds that sell shares to institutional investors or individuals who use them as more profitable alternatives to (short term) saving accounts.
Refers to the principle that in good times the profits of the financial service industry are privatized, while the losses in case of emergency are socialized. Financial bail-outs of lending institutions by governments, central banks or other institutions can encourage risky lending in the future, if those that take the risks come to believe that they will not have to carry the full burden of losses. Lending institutions need to take risks by making loans, and usually the most risky loans have the potential for making the highest return. So called "too big to fail" lending institutions can make risky loans that will pay handsomely if the investment turns out well but will be bailed out by the taxpayer if the investment turns out badly. In conclusion, moral hazard has contributed significantly to the practices of excessive risk-taking by the financial sector.
In insurance, it is the risk of loss on the value of insurance liabilities due to adverse changes in the mortality rates. An increase in the mortality rate usually leads to an increase in the value of insurance liabilities.
Multifactor Return Model
Sophisticated model of the relationship between expected return and risk factors. The model assumes that the evolution of one asset’s returns can be explained by a collection of factors.
Multi-year Multi-line Product (MMP)
It is an alternative corporate risk transfer product, under which a re-insurer promises to pay only if the aggregated losses of a primary insurer, arising from several business lines over a certain period, exceed a threshold.
Multi-trigger Product (MTP)
It is an alternative risk transfer product, under which the payments for losses from an insurance risk are only made if a second event occurs or the risk is triggered. The trigger can be linked to a metric or loss index.
A portfolio of securities professionally managed on behalf of a group of investors. Individual investors own a percentage of the value of the fund based on the number of units they buy and share the fund's gains or losses.
Naked Option Strategies
An unhedged strategy making exclusive use of one of the following: Short call strategy (selling or writing call options), and short put strategy (selling or writing put options). By themselves, these positions are called naked strategies because they do not involve an offsetting or risk-reducing position in another option or the underlying security.
A bond characteristic such that the price appreciation will be less than the price depreciation for a large change in yield of a given number of basis points. For example, a fixed-rate mortgage may lose value as rates go down because of prepayments.
Net Asset Value (NAV)
The net asset value of an open-ended mutual fund or unit trust is calculated daily by dividing the fund's net value by the number of outstanding shares. This is the price at which investors can buy or sell shares in the fund.
Net Currency Exposure
Exposure to foreign exchange risk after netting all intracompany cash flows.
The process of calculating aggregate risk exposures across the portfolios of market participant. For example, if a trader has entered one trade in which she is long $100 worth of corn and another where she is short $90 of corn, her risk exposure after netting would be long $10 worth of corn. The rules by which netting occurs can have important ramifications for margin requirements. If, in the example above, the traders’ two positions were on different exchanges without any arrangement for netting, she might be required to post collateral as if she had not hedged her position by entering into off-setting agreements.
Non-life Premium and Reserve Risk
In insurance, it is the risk of loss in the value of insurance liabilities, resulting from fluctuations in the timing, frequency and severity of insured events, and in the timing and amount of claim settlements.
Non-life Catastrophe Risk
In insurance, it is the risk of loss in the value of insurance liabilities, resulting from significant uncertainty of pricing and provisioning assumptions related to extreme or exceptional events.
Risk that cannot be eliminated by having a large portfolio of many assets.
A loan for which no partner or related person bears the economic risk of loss. For example, if a partnership fails to repay a nonrecourse loan, the lender has no recourse against any partner except to foreclose of the assets used to secure the loan.
Nonmarket or firm-specific risk factors that can be eliminated by diversification. Also called unique risk or diversifiable risk. Systematic risk refers to risk factors common to the entire economy.
Computed price quotation on a futures or option contract for a period in which no actual trading took place, usually an average of bid and asked prices or computed using historical or theoretical relationships to more active contracts. Also called Nominal Quotation.
In an interest rate swap, forward rate agreement, or other derivative instrument, the amount or, in a currency swap, each of the amounts to which interest rates are applied in order to calculate periodic payment obligations. Also called the notional amount, the contract amount, the reference amount, and the currency amount.
Off-balance Sheet Practices
Refers to certain assets and debts that are not mentioned on the balance sheet of the company. These practices are not transparent and lack of oversight by supervisors. Banks have traditionally used off-balance-sheet practices to avoid reporting requirements or to reduce the amount of capital they needed to hold to satisfy regulatory requirements.
A Market characterized by a small number of producers who often act together to control the supply of a particular good and its market price.
A Market characterized by a small number of large buyers who control all purchases and therefore the market price of a good or service.
A measure of the percentage change in the value of an option relative to the percentage change in the price of the underlying security.
Used in the context of general equities. Mutual fund that continually creates new shares on demand. Mutual fund shareholders buy the funds at net asset value and may redeem them at any time at the prevailing market prices. Antithesis of closed-end fund.
A repurchase agreement with no definite term. The agreement is made on a day-to-day basis, and either the borrower or the lender may choose to terminate. The rate paid is higher than on overnight repo and is subject to adjustment if rates move.
The inherent or fundamental risk of a firm, without regard to financial risk. The risk that is created by operating leverage. Also called business risk.
Slope of a graph representing portfolios achieved by combining different levels of borrowing and lending with a single risky portfolio. Sometimes called investment opportunity set.
An efficient portfolio most preferred by an investor because its risk/reward characteristics approximate the investor's utility function. A portfolio that maximizes an investor's preferences with respect to return and risk.
An option is a financial derivative that represents a contract sold by one party (option writer) to another party (option holder). The contract offers the buyer the right, but not the obligation, to buy (call) or sell (put) a security or other financial asset at an agreed-upon price (the strike price) during a certain period of time or on a specific date (exercise date).
Any market in which the supply and demand are reasonably equal. The orderly market would thus be in equilibrium since supply equal demand.
An option is described as being Out-the-Money when the price of the underlying instrument is below the strike or exercise price for a call option (an option to buy), and above the strike price for a put option (an option to sell). For a call, when an option's strike price is higher than the market price of the underlying asset. For a put, when the strike price is below the market price of the underlying asset.
In general, this means to do better than some particular benchmark. Mutual Fund XYZ is said to outperform the S&P500 if its return exceeds the S&P500 return. However, this language does not take risk into account. That is, one might have a higher return than the benchmark in a particular year because of higher risk exposure. Outperform is also a term used by analysts to describe the prospects of a particular company. Usually, this means that the company will do better than its industry average.
Over The Counter (OTC) Trading
An exchange directly between the buyer and seller. Around 85% of the derivatives transactions are over-the-counter. They are not listed on the exchange and there is no trade through third parties, this way making the market much less transparent.
Overnight Delivery Risk
A risk brought about because differences in time zones between settlement centers require that payment or delivery on one side of a transaction be made without knowing until the next day whether the funds have been received in an account on the other side. Particularly apparent when delivery takes place in Europe for payment in dollars in New York.
Excessive broker trading in a discretionary account. Underwriters persuade brokerage clients to purchase some part of a new issue in return for the purchase by the underwriter of other securities from the clients at a premium. This premium is offset by the underwriting spread.
A stock price that is seen as too high according to the company's price-earnings ratio, expected earnings, or financial condition.
Usually refers to recommendation that leads an investor to increase their investment in a particular security or asset class. The increase is usually with respect to a benchmark. Suppose that U.S. equities compose 40% of the benchmark portfolio. If one thinks the U.S. will outperform, the investor may increase the exposure to U.S. equity to more than 40%.
Packaged Retail Investment Product (PRIP)
A Packaged Retail Investment Product is a financial product offered to retail (non-institutional) investors. It is a combination or wrapping of (different) assets, or other mechanisms, in a financial product as opposed to direct holding of such assets. The amount payable to the investor is based on the market value of assets or payouts from assets of which the PRIP is composed. Assets of which PRIPs are composed cover investment funds, structured products in any form, and derivative instruments.
Measure used in the field of statistics to indicate the value below which a given percentage of observations in a group of observations fall. For example, the 30th percentile is the value (or score) below which 30 percent of the observations may be found.
In insurance, these are arrangements between corporations or insurers to mobilize sufficient capacity for very large risks. The role of the corporations in the pool is similar to the one of mutual insurers with companies as the policy holders.
A collection of investments held by an individual investor or financial institution. They may include stocks, bonds, futures contracts, options, real estate investments or any item that the holder believes will retain its value.
The holding of shares or bonds by investors who are content to take a passive rather than an active role in a company's affairs. The role of portfolio investors contrasts with that of active investors involved in setting up a new business or expanding an existing one.
The net balance of outstanding purchases and sales held by a trader.
Pre-defined limit on the amount, or the maximum number, of derivatives contracts a (legal) person, or a class of traders, can enter into or hold in one particular underlying security (e.g. hard red winter wheat futures) at a particular moment. Position limits can be designed by the exchanges on which the derivatives are traded, or by regulators and/or supervisors, and enforced by exchanges and/or supervisors. They aim at preventing excessive market and price instability.
Value today of a future payment, or stream of payments, discounted at some appropriate compound interest or discount rate. For example, the present value of $100 to be received 10 years from now is about $38.55, using a discount rate equal to 10% interest compounded annually.
Price/Earnings Ratio (P/E)
Price of a stock divided by its earnings per share. The P/E ratio may be either uses the reported earnings from the latest year (called a trailing P/E) or employ and analyst's forecast of next year's earnings (called a forward P/E).
Price/Book Ratio (P/B)
Price of a stock divided by its value according to the balance sheet account balance of the company which is issuing the stock. The P/B ratio is also known as market-to-book ratio and is used to measure how much investors are paying for what would be the value of the issuing company at the default.
Market for new issues of securities, as distinguished from the secondary market, where previously issued securities are bought and sold. A market is primary if the proceeds of sales go to the issuer of the securities sold.
A Prime Brokerage is a package of professional services to hedge funds and other large institutional investors mainly provided by investment banks, such as Morgan Stanley and Goldman Sachs. These services include financing to facilitate leverage, securities lending between hedge funds and institutional investors, clearing and settlement of trade, capital introduction (by introducing hedge fund clients to qualified hedge fund investors who have an interest in exploring new opportunities to make hedge fund investments), risk management advice and operational support. Cash lending to support leverage and securities lending to facilitate short selling are the main prime brokerage services. Globally more than 90% of these activities are based in London. Their revenues are typically derived from three sources: spreads on financing (including stock loan), trading commissions and fees for the settlement of transactions done away from the prime.
Face value of an obligation (such as a bond or a loan) that must be repaid at maturity, as separate from the interest.
Private equity funds
Private equity funds vary from hedge funds as they operate in a different way as an activist shareholder. Generally speaking, private equity funds engage in two types of activities: a) they provide venture capital for start-up firms and small business with growth potential that look for investors; b) their most substantial and striking activities are leveraged buyouts. Private equity firms have a short term focus as they wants their investment back as soon as possible with the highest return as possible. In the first half of 2006 private equity leveraged buy-outs have got 86% of their investment back in just 24 months engagement in the target company. The biggest five private equity deals involved more money than the annual budgets of Russia and India.
Probability of Default (PD)
Financial term describing the likelihood of a borrower being unable to repay during a specific time horizon, usually 12 months. PD is a key parameter used in the calculation of economic capital or regulatory capital under Basel II for a banking institution.
Procyclicality implies that the value of the good, service or indicator tends to move in the same direction as the economy, growing when the economy grows and declining when the economy declines. In particular, the financial regulations of the Basel II Accord have been criticized for their possible procyclicality. The accord requires banks to increase their capital ratios when they face greater risks. Unfortunately, this may require them to lend less during a recession or a credit crunch, which could aggravate the downturn. A similar criticism has been directed at fair value accounting rules.
Public trading generally refers to regulated markets and multilateral trading facilities subject to public disclosure requirements.
An option giving the holder the right, but not the obligation to sell the underlying instrument at an agreed price or strike price within a specified time. The seller or writer has the obligation to buy if the holder exercises the option to sell.
Difference between Treasury securities and non-Treasury securities that are identical in all respects except for quality rating. For instance, the difference between yields on Treasuries and those on single A-rated industrial bonds. Also called credit spread.
Traditional analysis of firm-specific prospects for future earnings. It may be based on data collected by the analysts, there is no formal quantitative framework used to generate projections.
Quantiles are points taken at regular intervals from the cumulative distribution function of a random variable. It refers to the fraction (or percent) of points below a given value. For example, the 0.3 (or 30%) quantile is the point at which 30% percent of the data fall below and 70% fall above that value.
A mathematical analysis of the measurable figures of a company, such as the value of assets or projected sales. This type of analysis does not include a subjective assessment of the quality of management.
A monetary policy in which the central bank engages in open market transactions aimed at increasing money supply in the economy. Easing could also involve direct money creation (printing).
Use of advanced econometric and mathematical valuation models to identify the firms with the best possible prospective. Antithesis of qualitative research.
To convert an asset or liability into a currency other than the regular trading currency.
Currency options with a guaranteed exchange rate that enable buyers who like an asset, German bonds for example, but not the asset's pricing currency, to arrange payment in a different currency for a fee.
The actual price or the bid or ask price of either cash commodities or futures contracts.
Theory about the movement of a stock and commodity future prices hypothesizing that past prices are of no use in forecasting future price movements. According to the theory, stock prices reflect reactions to information coming to the market in random fashion, so they are no more predictable than the walking pattern of a drunken person.
It is an agreement between two parties, i.e. the insurer and re-insurer, under which claims that occur in a fixed period of time are split between the insurer and the re-insurer in an agreed manner. The re-insurance agreement allows the insurance company to protect itself from ruin by transferring the risk to the re-insurer.
Relative Capital shortfall
It refers to the capital shortfall of a financial institution expressed in percent of the total market capital shortfall. Those financial institutions with the highest relative capital shortfall are also the ones whose default would be the most costly to the government (in case of a bailout).
Regulated market for derivatives
Regulated market for derivatives is a venue for trading derivatives over which a government body exerts a level of control. An example of a regulated market is a commodity derivative exchange which is under supervision, as opposed to OTC markets which were until recently not regulated nor supervised.
Federal and state governments have several institutions that regulate and oversee financial markets and companies. These agencies each have a specific range of duties and responsibilities that enable them to act independently of each other while they work to accomplish similar objectives.
Re-securitizations have underlying securitization positions, typically in order to repackage medium-risk securitization exposures into new securities. Because of their complexity and sensitivity to correlated losses, re-securitizations are even riskier than straight securitizations. See also: securitization.
Reserve Requirement Ratio (RRR)
The reserve requirement ratio refers to the minimum fraction of customer deposits and notes that a commercial bank must hold as reserves (instead of lending out) as part of the regulation by the central bank.
In insurance, it is the risk of loss on the value of insurance liabilities due to adverse changes in the revision rates applied to annuities, due to changes in the legal environment or in the state of health of the person insured.
The amount of risk a group or entity is willing to accept in pursuit of its business strategy. Risk appetite is expressed quantitatively as risk measures such as economic capital and risk limits, and qualitatively in terms of policies and controls.
Term referring to the assumption that, given the same return and different risk alternatives, a rational investor will seek the security offering the least risk or, put another way, the higher the degree of risk, the greater the return that a rational investor will demand.
A quantity (variable) affecting the evolution of the returns of one asset and thus explaining part of its total risk. Risk factors enter multifactor return models and Arbitrage Pricing Theory.
Term referring to the assumption that, given the same return and different risk alternatives, a rational investor will seek the security offering the least risk or, put another way, the higher the degree of risk, the greater the return that a rational investor will demand.
A quantity or an index used to evaluate and monitor the risk of one asset or portfolio over time, or in the cross-sectional dimension by comparison to peers.
Risk Retention Group (RRG)
In insurance, it defines a mechanism of risk financing which allows corporations to access liability insurance. As insurance companies, RRGs retain risk and need to be capitalized by their members.
The minimum amount of capital that is required by financial regulators to be put aside by banks and other (financial) institutions, based on a percentage of the assets, weighted by risk. The idea of risk-weighted assets is different from a static requirement for capital. Instead, capital requirements are based on the riskiness of a bank's assets. For example, loans that are secured by a letter of credit would be weighted riskier than a mortgage loan that is secured with collateral.
Term used in insurance to define a measure of how likely is the event of a fall to or below zero of the insurer's surplus in a given time horizon. The probability of ruin in an infinite time horizon is called ultimate ruin probability. The ruin probability can be used in the evaluation of the Solvency II capital charges.
Mathematical models used in insurance and actuarial mathematics to describe the insurer’s surplus process and the level of exposure of this process to the risk of insolvency (or ruin).
Exchanges and over-the-counter markets where securities are bought and sold subsequent to original issuance, which took place in the Primary Market. Proceeds of secondary market sales accrue to the selling dealers and investors, not to the companies that originally issued the securities.
Securities lending is the borrowing of securities, which primarily takes place between investors, such as hedge funds and institutional investors. The latter does not want to sell the securities in the short run and earns money from the fees it receives for lending its stocks. Besides short selling, the practice of securities lending may be used for activist practices during the general meeting of shareholders. A lender of a security loses its voting rights to the borrower who may use it for activist short-term goals.
Securitization is the process of converting a pool of illiquid assets, such as loans, credit card receivables (Asset Backed Securities) and real estate securities (Mortgage Backed Securities) into tradable debt securities. These new sophisticated instruments were supposed to refinance pool of assets, to diminish risks and to enhance the efficiency of the markets, but they resulted in increasing the risks by spreading "toxic assets" throughout the financial system.
A certificate issued by a company, government or other organization giving proof that money has been invested in the stock, bonds, debt, options or other derivatives or instruments issued or sold by it.
To examine assets for potential investment according to a predetermined criterion. For instance, an investor may screen stocks according to the highest momentum, favourable price-earnings ratio, or any number of other variables.
Shadow Banking System
The Shadow Banking System is the collection of financial entities, infrastructure and practices which support financial transactions that occur beyond the reach of existing state sanctioned monitoring and regulation. It includes entities such as hedge funds, money market funds and structured investment vehicles. Investment banks may conduct much of their business in the shadow banking system, but they are not shadow banking institutions themselves.
A share represents part ownership of a company and the right to receive a share in its profits. Also called a stock. Ordinary or common shares carry voting rights. Preferred or preference shares do not normally carry voting rights, though holders are entitled to receive a certain level of dividend payments before they are made to other shareholders.
The Short selling is the practice of selling assets, usually securities, which have been borrowed from a third party (usually a broker) with the intention of buying identical assets back at a later date to return to the lender. The short seller hopes to profit from a decline in the price of the assets between the sale and the repurchase, as he will pay less to buy the assets than he received on selling them. So, short sellers make money if the stock goes down in price. If many market participants go short at the same time on a certain stock, they call down an expected drop in prices because of the growing amount of stocks that have become available. Such practices hold the risk of market manipulation.
Solvency I and II are two EU Directives that define the European Union (EU) regulatory regime for insurance companies. The two directives concern the requirements for the qualification of the insurance company’s managers and reporting process, and the amount of capital that EU insurance companies must hold to reduce the risk of insolvency.
Risk that a foreign government will default on its loan or fail to honor other business commitments because of a change in national policy.
Special Purpose Vehicles (SPVs)
Special Purpose Vehicles or Special Investment Vehicles (SIVs) are legal entities created (sometimes for a single transaction) to isolate the risks from the originator. As a result, financial firms set up an SPV/SIV in which they usually do not contribute risk capital. The firm transfers assets to the SPV for management or uses the SPV to finance a large project, thereby achieving a narrow set of goals without putting the entire firm at risk. The SPV primarily holds investments of other financial firms or other (institutional) investors. The financial firm that set up the SPV/SIV receives fees for their services that have been agreed in the memorandum of association or the statutes of the SPV/SIV.
Customer order to a broker that sets the sell price of a stock below the current MARKET PRICE. A stop-loss order therefore will protect profits that have already been made or prevent further losses if the stock drops.
Term used in insurance to define the net value of a portfolio of risks or policies throughout time. Measurement and management of the surplus process represents a crucial issue in measuring the risk of insolvency (see ruin probability).
Swaps involve two parties exchanging specific amounts of cash flows against another stream. The swap agreement defines the dates when the cash flows are to be paid and the way they are calculated.
That part of a security's risk that is common to all securities of the same general class (stocks and bonds) and thus cannot be eliminated by diversification; also known as market risk.
Refers to the risks imposed by interlinkages and interdependencies in a system or market, where the failure of a single entity or cluster of entities can cause a cascading failure, which could potentially bankrupt or bring down the entire system or market.
Systemically Important Financial Institutions (SIFI)
SIFI is short for Systemically Important Financial Institutions. These are global financial services firms – almost exclusively banking conglomerates – so big that governments believe they will be forced to rescue these financial conglomerates, in case they collapse, in order to avoid the risk of lasting damage to the financial and economic system. G-SIFIs is the abbreviation of globally systemically important financial institutions, being able to pose a threat to the global financial system in case of collapse. Domestic or national SIFIs (D-SIFIs) can threaten the financial stability of a country in case of distress.
Tactical Asset Allocation (TAA)
Portfolio strategy that allows active departures from the normal asset mix according to specified objective measures of value. Often called active management. It involves forecasting asset returns, volatilities, and correlations. The forecasted variables may be functions of fundamental variables, economic variables, or even technical variables.
Often refers to extreme risk. In terms of a distribution, the left tail represents extreme negative realizations. Importantly, there are two tails. The right tail refers to extreme positive realizations.
Usually refers to the left side of a probability distribution which represents extreme negative events. Tail risk is related to negative skewness. Tail risk can be managed. For example, the purchase of a put option reduces tail risk.
Taylor’s expansion is a representation of a function as an infinite sum of terms that are calculated from the values of the function's derivatives at a single point.
Refers to an interest rate forecasting model invented by the economist John Taylor in 1992. The rule states that the “real” short-term interest rate should be determined according to three factors: (1) where actual inflation is relative to the targeted level that the central bank wishes to achieve, (2) how far economic activity is above or below its “full employment” level, and (3) what the level of the short-term interest rate is that would be consistent with full employment.
Difference between US Treasury bill rate and Eurodollar rate; used by some traders as a measure of investor/trader anxiety or credit quality.
Term to Maturity
The time remaining on a bond's life, or the date on which the debt will cease to exist and the borrower will have completely paid off the amount borrowed.
The value of a bond at maturity, typically its par value, or the value of an asset (or an entire firm) on some specified future valuation date. Usually, a perpetuity formula is used.
Terms of Delivery
The part of a sales contract that indicates the point at which title and risk of loss of merchandise pass from the seller to the buyer.
The event of a price movement that approaches a support level or a resistance level established earlier by the market. A test is passed if prices do not go below the support or resistance level, and the test is failed if prices go on to new lows or highs.
Theoretical Futures Price
The equilibrium futures price. Also called the fair price.
Theoretical Spot Rate Curve
A curve derived from theoretical considerations as applied to the yields of actually traded Treasury debt securities, because there are no zero-coupon Treasury debt issues with a maturity greater than one year. Like the yield curve, this is a graphic depiction of the term structure of interest rates.
A measure of change in the value of an option compared with the change in the time to expiry. Also known as time decay or time-value decay. Option values decline as their expiry date approaches.
A measure of change in the value of an option compared with the change in the time to expiry. Also known as time decay or time-value decay. Option values decline as their expiry date approaches.
Threshold ARCH (TARCH)
This model represents an extension of the GARCH and ARCH models. Past negative shocks can have a different impact on current volatility than positive shocks of the same level. This model allows the capturing of asymmetries in volatility.
TIBOR (Tokyo Interbank Offered Rate)
A daily reference rate based on the interest rates at which banks offer to lend unsecured funds to other banks in the Japan wholesale money market (or interbank market).
A market indicator based on the number of stocks whose last trade was an uptick or a downtick. Used as an indicator of market sentiment or psychology to try to predict the market's trend.
Tier 1 and Tier 2
Descriptions of the capital adequacy of banks. Tier 1 refers to core capital while Tier 2 refers to items such as undisclosed resources.
A market in which volume is high, trading is active and highly competitive, and consequently spreads between bid and ask prices are narrow.
A market in which volume is high, trading is active and highly competitive, and consequently spreads between bid and ask prices are narrow.
An indexing strategy that is linked to active management through the emphasis of a particular industry sector, selected performance factors such as earnings momentum, dividend yield, price-earnings ratio, or selected economic factors such as interest rates and inflation.
Time to Maturity
The time remaining until a financial contract expires. Also called time until expiration.
In performance measurement, the actual rate of return realized over some evaluation period. In fixed income analysis, the potential return that considers all three sources of return (coupon interest, interest on coupon interest, and any capital gain/loss) over some investment horizon.
In the context of the 2007-2009 recession, the term refers to assets like mortgage backed securities and collateralized debt obligations that are illiquid and difficult to value. If the value of the underlying assets falls significantly, these securities could lose value rapidly (aggravated by the lack of liquidity and transparency in price) which could lead to significant write-downs (and hence losses) for holders of these toxic assets.
Used by companies that are in such bad shape, that there is no other way to get financing. This instrument is similar to a convertible bond, but convertible at a discount to the share price at issuance and for a fixed dollar amount rather than a specific number of shares. The further the stock falls, the more shares you get. Popular in the mid to late 1990s. Also known as death spiral convertibles or floorless convertibles.
A Trade Repository is an entity that centrally collects and maintains the records of trading of (over-the-counter (OTC)) derivatives. These electronic platforms, acting as authoritative registries of key information regarding open OTC derivatives trades. Their purpose is to provide an effective tool for mitigating the inherent opacity of OTC derivatives markets.
A Trading Book refers to the portfolio of financial instruments held by a brokerage or a bank. The financial instruments in the trading book are purchased or sold to facilitate trading for their customers, to profit from spreads between the bid/ask spread, or to hedge against various types of risk. The trading book consists of all the financial instruments that a bank holds with the intention of re-selling them in the short term, or in order to hedge other instruments in the trading book.
A Trading Platform is the software through which investors and traders can open, close and manage market positions. Trading platforms are frequently offered by brokers either for free or at a discount rate in exchange for maintaining a funded account and/or making a specified number of trades per month.
Treasury Bills (T-Bills)
Debt obligations of the US Treasury that have maturities of one year or less. Maturities for T-Bills are usually 91 days, 182 days, or 52 weeks. Treasury bills are sold at a discount from face value and do not pay interest before maturity. The interest is the difference between the purchase price of the bill and the amount that is paid to you either at maturity (this amount is the face value) or when you sell the bill prior to maturity.
Treasury Bonds (T-Bonds)
Debt obligations of the US Treasury that have maturities of more than 10 years.
A trading method that makes trading decisions through the use of computer models that determine the general direction of the market. Most of these models are based on momentum and that is why they are called trend following.
A measure of the excess return per unit of risk, where excess return is defined as the difference between the portfolio's return and the risk-free rate of return over the same evaluation period and where the unit of risk is the portfolio's beta. Named after Jack Treynor.
A short call option position in which the writer does not own shares of underlying stock represented by the option contracts. Uncovered calls are much riskier for the writer than a covered call, where the writer of the uncovered call owns the underlying stock. If the buyer of a call exercises the option to call, the writer would be forced to buy the asset at the current market price. Also called a "naked" asset.
A short put option position in which the writer does not have a corresponding short stock position or has not deposited, in a cash account, cash or cash equivalents equal to the exercise value of the put. The writer has pledged to buy the asset at a certain price if the buyer of the option chooses to exercise it. Uncovered put options limit the writer's risk to the value of the stock (adjusted for premium received.) Also called "naked" puts.
For options, the security that is subject to purchase or sold upon exercise of an option contract. For example, IBM stock is the underlying security for IBM options. For Depository receipts, the class, series, and number of the foreign shares represented by the depository receipt.
In general, this means to do worse than some particular benchmark. Mutual Fund XYZ is said to underperform the S&P500 if its return falls short of the S&P500 return. However, this language does not take risk into account. That is, one might have a lower return than the benchmark in a particular year because of lower risk exposure. Underperform is also a term used by analysts to describe the prospects of a particular company. Usually, this means that the company will do worse than its industry average.
Undertakings for Collective Investment in Transferable Securities (UCITS)
Undertakings for Collective Investment in Transferable Securities are investment funds established and authorized in conformity with EU legislation. The UCITS Directive lays down common requirements for the organization, management, free movement, liquidity and oversight of these funds.
Undertakings for Collective Investment in Transferable Securities Directives (UCITS Directives)
The Undertakings for Collective Investment in Transferable Securities Directives lay down common requirements for the organization, management, free movement, liquidity and oversight of UCITS funds. The UCITS Directives aim to protect investors and foster a single European market for collective investment schemes. The directives consist of a Management Directive and a Product Directive. Any collective investment scheme that satisfies the extensive criteria detailed in the UCITS directives can apply to be UCITS certified, i.e. to become a “UCITS fund”. This is an enormous help when it comes to marketing the fund to retail investors, i.e. the general public.
Undertakings for Collective Investment in Transferable Securities Fund (UCITS Fund)
UCITS fund is a collective investment scheme that satisfies the extensive criteria detailed in the UCITS Directives. These funds have many restrictions placed on how they can invest, and what products they can purchase, because these funds are generally marketed to “retail investors”, i.e. the general public. It is important to note that hedge funds and private equity funds are not UCITS funds. They have been subject to a separate EU legislation (decided upon by the European Parliament in Autumn 2010): The Alternative Investment Fund Managers Directive (AIFMD).
A stock price perceived to be too low or cheap, as indicated by a particular valuation model. For instance, some might consider a particular company's stock price cheap if the company's price-earnings ratio is much lower than the industry average. To refer to undervaluation or overvaluation implicitly assumes some model of valuation. It is always possible that the security is valued correctly and that model applied is wrong.
Usually refers to recommendation that leads an investor to reduce their investment in a particular security or asset class. The reduction is usually with respect to a benchmark. Suppose that U.S. equities compose 40% of the benchmark portfolio. If one thinks the U.S. will underperform, the investor may reduce the exposure to U.S. equity to less than 40%.
A firm, usually an investment bank, which buys an issue of securities from a company and resells it to investors. In general, a party that guarantees the proceeds to the firm from a security sale, thereby in effect taking ownership of the securities.
See Systematic Risk
Also called unsystematic risk or idiosyncratic risk. Specific company risk that can be eliminated through diversification. See: Diversifiable Risk and Unsystematic Risk.
Also called the diversifiable risk or residual risk. The risk that is unique to a company such as a strike, the outcome of unfavorable litigation, or a natural catastrophe that can be eliminated through diversification.
This term is generally used to denote an illegal predatory lending practice in which a lender charges an interest rate on a loan that is considered to be excessive or in violation with interest rate limits as established by some state governments. An excessively high interest rate that is overly burdensome for the borrower. A lender may set an interest rate unreasonably high if they believe that the borrower may not be able to repay the loan and interest. Limits on interest rates vary from state to state within the U.S.
A mathematical expression that assigns a value to all possible choices. In portfolio theory, the utility function expresses the preferences of economic entities with respect to perceived risk and expected return.
In the market for Eurodollar deposits and foreign exchange, the delivery date of funds traded. For spot transactions, it is normally on spot transactions two days after a transaction is agreed upon. In the case of a forward foreign exchange trade, it is the future date.
An option with standard features like a fixed strike price, expiration date and a single underlying asset. The option is effective at the current date and when exercised, its payoff equals the difference between the value of the underlying asset and the strike price. It is also known whether the option is a call or a put at the time the option is sold.
Variable Ratio Write
An option strategy in which the investor owns 100 shares of the underlying security and writes two call options against it, each option having a different striking price.
A measure of dispersion of a set of data points around their mean value. The mathematical expectation of the average squared deviations from the mean. The square root of the variance is the standard deviation.
The measurement of an option's sensitivity to changes in the volatility of the underlying security or instrument. Vega represents the amount that an option contract's price changes in reaction to a 1% change in the volatility of the underlying asset.
Any of several types of option spread involving the simultaneous purchase and sale of options of the same class and expiration date but different strike prices, including bull vertical spreads, bear vertical spreads, back spreads, and front spreads.
The implied volatility on the S&P 100 (OEX) option. This volatility is meant to be a forward looking volatility. It is calculated from both calls and puts that are near the money. The VIX is a popular measure of market risk.
The volatility measure the risk of not having the expected performance for a fund at a certain date in the future and it is then linked with the dispersion of returns associated with one fund. In that sense, it relies on the variability of the performance of the fund. Its empirical counterpart is linked with the variance of returns.
A delta-neutral option spread designed to speculate on changes in the volatility of the market rather than the direction of the market.
Total number of stock shares, bonds, or commodities futures contracts traded in a particular period. A sharp rise in volume is believed to signify future sharp rises or falls in price, because it reflects increased investor interest in a security, commodity or market.
A security entitling the holder to buy a proportionate amount of stock at some specified future date at a specified price, usually one higher than current market price. Warrants are traded as securities whose price reflects the value of the underlying stock. Corporations often bundle warrants with another class of security to enhance the marketability of the other class. Warrants are like call options, but with much longer time spans-sometimes years. And, warrants are offered by corporations, while exchange-traded call options are not issued by firms.
An asset that has a limited life and thus decreases in value (depreciates) over time. Also applies to consumed assets, such as oil or gas, and termed "depletion."
A stock representing ownership in a corporation that is worth less than the actual invested capital, resulting in problems of low liquidity, inadequate return on investment, and low market value.
A market with few buyers and many sellers and a declining trend in prices.
The impact of changes in actual or perceived value of assets on consumption decisions. Changes in wealth that are perceived to be temporary will have a smaller effect on consumption expenditures than changes in wealth that are deemed permanent.
It is a financial risk transfer product used to hedge against the weather risk. The buyer of a weather derivative agrees to bear this risk for a premium. In case of bad weather conditions, the seller claims the agreed amount of money, if nothing happens, the buyer makes a profit.
A potential friendly acquirer sought out by a company to protect it from a hostile takeover.
Trading activity near the end of a quarter or fiscal year that is designed to improve the appearance of a portfolio to be presented to clients or shareholders. For example, a portfolio manager may sell losing positions so as to display only positions that have gained in value. Financial institutions have also been criticized for a different type of window dressing as many moved debt off the balance sheet near the end of the quarter in a temporary manner. This made the bank appear to have less leverage than it actually did.
A multilateral development finance agency created by the 1944 Bretton Woods, (New Hampshire) negotiations. It makes loans to developing countries for social overhead capital projects that are guaranteed by the recipient country.
A procedure common in derivatives markets that allows negotiated transactions to expand. In a work-up, after a price and quantity for a bilateral deal have been set, the parties involved can offer to expand the quantity of the deal, until the other party objects. In the case of brokered deals, third parties can similarly offer (through the broker) to expand the size of the trade until the appetite on one side of the trade has been exhausted.
A financing device that permits an existing loan to be refinanced and new money to be advanced at an interest rate between the rate charged on the old loan and the current market interest rate. The creditor combines or "wraps" the remainder of the old loan with the new loan at the intermediate rate.
This type of risk occurs when exposure to a counterparty is adversely correlated with the credit quality of that counterparty. There are two types of wrong-way risk. Specific wrong way risk arises through poorly structured transactions, for example, those collateralized by own or related party shares. General or conjectural wrong way risk arises where the credit quality of the counterparty may for non-specific reasons is held to be correlated with a macroeconomic factor which also affects the value of derivatives transactions. An example of conjectural wrong way risk is that fluctuations in the interest rate causes changes in the value of the derivative transactions but could also impact the credit worthiness of the counterparty. Another example might occur with an emerging-market counterparty, where there is country and possibly currency risk associated with the counterparty (however creditworthy it might otherwise be).
The Commodity Futures Symbol which represents the November Delivery Month
A symbol used to signify that a security is trading ex-dividend. XD is an alphabetic qualifier that acts as shorthand to tell investors key information about a specific security in a stock quote. Sometimes "X" alone is used to indicate that the stock is trading ex-dividend.
A currency that trades in markets outside of its domestic borders. The term "xenocurrency" is derived from the prefix "xeno," which literally means foreign or strange.
Also called Cross-Sectional Volatility. X-Volatility measures the return dispersion of a universe of securities at a single time point, weighted by the market capitalization of the security.
A special dividend declared at the end of a fiscal year that usually represents distribution of higher-than-expected company profits.
The period beginning at the start of the calendar year up to the current date.
Year over year (YOY)
In finance and economics, year over year (YOY) refers to the comparison of financial or economic data at a given time period with the same time period in the previous year.
The percentage return paid on a stock in the form of dividends, or the effective rate of interest paid on a bond or note.
The graphical representation of the yields of a set of bonds or other financial instruments with the same credit risk and currency, but with different maturities.
The difference between yields on two different debt instruments, usually of different credit quality. It is an indication of the risk premium for investing in one investment product over another.
Yield to Maturity
The percentage rate of return paid on a bond, note, or other fixed income security if the investor buys and holds it to its maturity date. The calculation for YTM is based on the coupon rate, length of time to maturity, and market price. It assumes that coupon interest paid over the life of the bond will be reinvested at the same rate.
Yield to Worst
The yield to worst (YTW) refers to the lowest potential yield that can be received on a bond without the issuer actually defaulting.
An asset (portfolio) which is built for being zero-correlated with the market portfolio. It is shown by Black (1972) that it can helps to prove the Capital Asset Pricing Model relationship when there is no risk-free asset (in a model that is called the Zero Black CAPM). Roughly speaking, any investment whose returns do not correlate with those of an index (such as the DJIA for instance for the American equity market) is a zero-beta asset.
A portfolio constructed to have zero systematic risk, similar to the risk-free asset, that is, having a beta of zero.
Security that makes no periodic interest payments but instead is sold at a deep discount from its face value. The buyer of such bond receives the rate of return by the gradual appreciation of the security, which is redeemed at face value on a specified maturity date.
A portfolio of zero net value established by buying and shorting component securities, usually in the context of an arbitrage strategy.
A class of mutual fund shares that employees of the fund's management company are allowed to own. Employees may have the option of buying Z-shares or receiving them as a part of compensation.
Statistical measure that quantifies the distance (measured in standard deviations) a data point is from the mean of a data set. Separately, Z score is the output from a credit-strength test that gauges the likelihood of bankruptcy.
The Zero-volatility spread (Z-spread) is the constant spread that will make the price of a security equal to the present value of its cash flows when added to the yield at each point on the spot rate Treasury curve where a cash flow is received. In other words, each cash flow is discounted at the appropriate Treasury spot rate plus the Z-spread.