Glossary:

Risk - the chance that a particular investment might fail. It is generally accepted that high-risk investments should yield higher returns, if the investment succeeds.

Return - the profit you make on the sale of an investment asset. The annual rate of return can be calculated by dividing the amount of your profit by the amount you invested. For example, if you invested $10,000 and got $15,000 back after two years, your annual return on investment would be 25%.

Return on Investment
= $15,000   (Current Value)
  10,000   (Investment amount)
= $5,000   (Profit)
÷ 10,000   (Investment amount)
= 50 % (Percentage return)
÷ 2   (Years investment held)
= 25 % Annual percentage return (return on investment)

Stock Market - The market in which shares are issued, sold and traded. The stock market allows a company access to additional capital. At the same time that it gives investors partial ownership in the company, the stock market also provides them the potential opportunity of gains based on the company's future performance. This chart shows the average rate of return by decade. If anything, these numbers reveal the fluctuations that the market is prone to. Attempting to retire after twenty or thirty years of stock market investing would have been difficult in several of these decades, which also emphasizes the need to diversify your investment portfolio.

Stock Market History of Returns
Decade Average Return Per Year
1900s 9.96%
1910s 4.20%
1920s 14.95%
1930s -0.63%
1940s 8.72%
1950s 19.28%
1960s 7.78%
1970s 5.82%
1980s 17.57%
1990s 18.17%

Diversification - a technique that mixes a wide variety of investments within an individual's portfolio. It is designed to minimize the impact of any single investment on overall portfolio performance.

Inflation - The rate at which the prices for goods and services is rising, and, as a result, purchasing power is falling.

Savings Certificate

Certificate of Deposit - A savings certificate or promissory note that is generally issued by a commercial bank, entitling the owner to receive interest. A CD has a maturity date, a specific fixed interest rate, and can be issued in any denomination. CDs are insured by the FDIC. The term of a CD generally ranges from one month to five years.

CDs holders do not have free and unlimited access to their funds. Although it is possible to withdraw the money, this action will often involve a penalty.

If, for example, you purchased a $10,000 CD with an interest rate of 5% compounded annually and a term of one year. At the end of the year, the CD will have grown to $10,500 ($10,000 * 1.05).

Money Market Account - a bank savings account that generally pays interest at rates similar to those offered by money market mutual funds. One advantage of a money market account, however, is that it is also insured up to $100,000 by the FDIC. Unfortunately, some banks reduce the interest they pay or charge you a fee if your balance falls below a specific amount. Money market accounts also offer check-writing privileges, but there are often limits on the number of withdrawals you can make in any given month.

Bond - a security or investment in debt, issued by a government, company, or university, to raise money. Bonds are essentially loans that you and other investors make to the issuer in return for the promise of being paid interest, usually at a fixed rate. The issuer also promises to repay the debt on time and in full. Because most bonds pay interest on a regular basis, they are also described as fixed-income investments.

Mutual Funds - a form of investment that pools the resources of thousands of investors to trade in stocks, bonds, currencies, or money market securities. The fund will buy back any shares an investor wishes to redeem, or sell back. Funds vary from aggressive to conservative. Because most mutual funds hold a large number of securities, they offer investors the opportunity to diversify, as well as the benefits of portfolio management.

Stocks - A stock is an investment that represents part ownership in a corporation, entitling you to a portion of that corporation's earnings and assets. In the past, as a shareholder you received a paper stock certificate called a security, verifying the shares you owned. Today, share ownership is usually recorded electronically, and the shares are held in street name by your brokerage firm. This practice makes trading shares easier, since holding the certificates in the brokerage's name, called "street name," means that you don't have to sign and deliver each stock certificate before a transaction can be completed.