Here at Unconventional Wealth, we make it our mission to help every reader achieve true, lasting financial success.
No matter where you’re starting out.
Sometimes that means helping you get over the hump to make that last push to finish off your retirement plan…
Sometimes it means getting you new income streams so you can start saving for that retirement (or guarantee you’ll never run dry)…
And sometimes it means helping you dig out of a massive hole — or even just figure out where to get started.
With that in mind, we realized there are a number of terms we use that aren’t familiar to everyone. Especially if you’re new to the world of financial responsibility — or investing in rare, tangible assets.
That’s why we decided to create some indexes to assist. Today, we present “The Ultimate Unconventional Investor’s Glossary (Part 1).”
Below, you’ll find definitions for all sorts of terms we throw around in our daily issues… with this edition focused on terms having to do with credit cards, credit scores and other similar financial instruments.
Let’s get started.
A common one, APR stands for annual (or annualized) percentage rate. You’ll most often see it attached to loans, credit cards or other means of borrowing money.
The important point with APR is the rate locks in — it will be the same at the end as it is at the beginning. So if you borrow $100 and the APR is 5%, you’ll owe $105 at the end of the first year. Then 5% every year on whatever your balance is going forward.
Annualized Rate of Return
This is the average gain any given investment pays out every year. So if you invest $100 in something and it earns 0% the first year and 10% the second, you’ll have an annualized — or average — rate of return of close to 5%. (It’s not exactly 5% — that would result in slightly more than $110 after two years because the second year, you’d earn 5% on $105, not $100. Take a look at the “compound interest” entry below.)
Bonds are when an entity asks the public for a loan. When bonds are issued, the rate (the percentage gain paid out every year) and the maturity date (when the bonds must be paid back) are announced at the same time.
There are two things to be aware of with bonds. First, you should know the different kinds:
- Treasury bonds (often called T-bills) are issued by the U.S. federal government and act as loans to the Treasury. Every nation has similar government bonds
- Municipal — or muni — bonds are loans to local governments. They aren’t backed by the U.S. government, but are instead backed by, say, a city or town
- Corporate bonds are loans to companies and businesses
- Junk bonds are the lowest-rated corporate bonds — those that credit ratings agencies figure are the most likely to never be paid back. They pay the highest rates — but with the highest risk.
The second thing to be aware of is bonds behave somewhat counterintuitively. When bonds are very popular (perhaps because everyone is fleeing to safety — and bonds are usually safer than stocks) the interest paid goes down. And vice versa.
There’s an easy way to understand this. Say you buy a $100 1-year bond that pays 5%. This bond will be worth exactly $105 in a year.
But let’s say three months later there’s some sort of scare and everyone wants bonds. Your bond will still be worth $105 at maturity, but maybe someone offers you $101 for it. Or $102. Or even $104.85. Obviously, $105 is not 5% more than $104.85.
Einstein reportedly called it the most powerful force in the universe. Compound interest refers to when interest is consistently added to a principal amount and subsequent interest payments are calculated on the total. This will eventually lead to exponential growth. It starts slowly, but gains speed very quickly.
The reason is that you are getting paid interest on interest already earned.
An illustration: Let’s say you are getting 5% on $100. Without compound interest, that would be equal to $5 a year — so your money would double every 20 years.
With compound interest, you get $105 the first year… then $110.25 the second year (instead of $110)… then $115.76 the third year (instead of $115)… $162.89 the 10th year (instead of $150)… and so on. So you’d double your money in under 15 years — instead of 20.
And the gap just continues to grow.
Floating Interest Rate
Commonly used with credit cards — and even some mortgages — a floating interest rate is one that can change over time. Usually, the rate changes when an underlying metric changes, like the prime rate (covered below).
These are often bad deals that lead to higher interest rates long term. At least, that’s true when interest rates are near historic rates — like they are now.
But you might actually want a floating, or variable, interest rate if you were living in a high-inflation, high-interest-rate world and thought there was nowhere for rates to go but down.
The prime rate is the lowest interest rate that banks charge. It is sometimes used interchangeably with the federal funds rate — the interest that banks charge each other for lending each other money overnight to balance their books.
To be clear, the prime rate and federal funds rate are different. But they are deeply linked and almost always move in tandem.
The principal is the original amount of an investment or loan. If I loan you $100 and you have to pay me $105 in a month, then $100 is the principal and $5 is the interest.
Assuming you can’t pay off a loan all at once, you’ll usually have scheduled payments of a portion of the interest and a portion of principal (most mortgages work this way).
But don’t forget that principal also works for investments — it’s the amount of money you put in. And everything above your principal is profit.
This is far from a comprehensive list — which is why we’ll run more of these glossaries in time. Some may contain lots of familiar concepts, while others could seem like they were dropped on you from out of nowhere.
Meanwhile, if you see us use an unfamiliar term… or have one you’ve always wondered about… or notice folks misunderstand with frequency… drop us a line at firstname.lastname@example.org.
By the time we’re finished, everything you need to understand any marketplace will be right here.
Editor-in-chief, Unconventional Wealth
P.S. Want to put some of your newfound knowledge to work? Check out this list of the best credit cards — and use your knowledge to dig deep into the terms of service. The biggest traps are buried there — and never declared in bold type.
Ryan Cole is the editor-in-chief of Unconventional Wealth. He’s been covering the alternative investment space for nearly a decade and writing about finance and investment for almost 20 years.
Ryan has walked the walk for years, living a very unconventional life. He’s led snowmobile tours through the mountains of Colorado, settled in Japan for five...