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Glossary of Terms - L through R

This glossary of investment and retirement related terms provides simple definitions of terms that you may need to know.

L l

Lagging indicator

Economic indicator that changes directions after business conditions have turned around.

Leading indicator

Economic indicator that changes direction in advance of general business conditions.

Lifestyle Fund

A mutual fund that maintains an asset allocation based on the expected retirement age of the investor; generally, the investor's portfolio will be shifted into less-risky assets as s/he grows older, or closer to the time when s/he wants to withdraw his investment.

Limit order

An order placed with a broker to buy or sell at a price as good or better than the specified limit price.

Liquidity

The degree of ease and certainty of value with which a security can be converted into cash.

Longevity risk

The risk of outliving one's retirement savings and income.

Lump sum

The distribution, in a single payment, of a participant's entire vested accrued benefit under the plan (or what remains of the participant's vested benefit at the time of the single-sum distribution).

M m

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Margin

The use of borrowed money to purchase securities (buying "on margin").

Market capitalization

Number of common stock shares outstanding times share price. Provides a measure of firm size.

Market order

An order placed with a broker to buy or sell a security at whatever the price may be when the order is executed.

Market risk

The volatility of a stock price relative to the overall market or index as indicated by beta.

Market sentiment

The feeling, sentiment, or tone of a market. This is usually shown by the activity or price movement of the securities represented within the market. For example, a bullish market sentiment would be indicated by rising prices and strong demand for securities, while a bearish sentiment would be indicated by falling prices and a lack of demand for securities.

Market timing

Attempting to leave the market entirely during downturns and reinvesting when it heads back up.

Master/prototype plan

A master plan is a plan that is made available by a sponsor for adoption by employers and for which a single funding medium is established for use by all adopting employers. A prototype plan is a plan that is made available by a sponsor for adoption by employers and under which a separate funding medium is established for each adopting employer.

Matching contribution

Employer contributions that are made on account of elective deferrals or employee after-tax contributions.

Maturity

The length of time until the principal amount of a bond must be repaid.

Minimum contribution

A contribution required to be made to a plan in any year in which it is determined to be top-heavy.

Money Market Fund

A common trust fund or mutual fund that aims to pay money market interest rates. This is accomplished by investing in safe, highly liquid securities, including bank certificates of deposit, commercial paper, U.S. government securities and repurchase agreements. Money funds make these high interest securities available to the average investor seeking immediate income and high investment safety.

Money Purchase Pension Plan (MPPP)

A defined contribution plan in which employer contributions are usually determined as a percentage of pay. Forfeitures resulting from separation of service prior to full vesting can be used to reduce the employer's contributions or be reallocated among remaining employees.

Mutual Fund

An open-end investment company that buys back or redeems its shares at current net asset value. Most mutual funds continuously offer new shares to investors.

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Named Fiduciary

The plan document must name one or more fiduciaries (called the "Named Fiduciary") with the duty and the power under ERISA to control, manage and administer the plan. The Named Fiduciary can be an employee of the plan sponsor or an independent party.

NASDAQ

National Association of Securities Dealers Automated Quotations System. This is a computerized system that provides up-to-the-minute price quotations on about 5,000 of the more actively traded over-the-counter stocks.

Net Asset Value (NAV)

The current market worth of a mutual fund share. Calculated daily by taking the funds total assets securities, cash and any accrued earnings deducting liabilities, and dividing the remainder by the number of shares outstanding.

Non-discrimination rules

Rules denying an employer, employee or both the benefit of tax advantages if the plan discriminates in favor of highly compensated or key employees as demonstrated by government-specified tests.

Non-elective contribution

A type of contribution an employer chooses to make to their employee's retirement plan account regardless of whether the employees makes a contribution to the plan.

Non-highly compensated employee (NHCE)

This group of employees is determined on the basis of compensation or ownership interest. See Highly Compensated Employees.

Non-qualified deferred compensation plan

A plan subject to tax, in which the assets of certain employees (usually Highly Compensated Employees) are deferred. These funds may be reached by an employer's creditors.

Non-qualified plan

A pension plan that does not meet the requirements for preferential tax treatment. This type of plan allows an employer more flexibility and freedom with coverage requirements, benefit structures, and financing methods.

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Odd lot

A transaction involving fewer shares than in a "round" lot, which for most stocks is 100 shares.

Opinion letter

A written statement issued by the IRS to a sponsor or master and prototype mass submitter as to the acceptability of the form of a master/prototype plan under §401(a) and, in the case of a master plan, the acceptability of the master trust under §501(a).

Orphan plan

A defined contribution plan for which there is no plan sponsor or other plan fiduciary willing to act with respect to the plan.

Overbought

A security, usually a stock, that has had a sharp rise, usually as a result vigorous buying, making prices too high. This is the opposite of being oversold.

Oversold

A security, usually a stock (also sometimes a whole market), believed to have declined to an unreasonable level due to vigorous selling. This is the opposite of being overbought.

Over-the-counter market

A communications network through which trades of bonds, non-listed stocks, and other securities take place. Trading activity is overseen by the National Association of Securities Dealers (NASD).

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Par value (bond)

The face value of a bond, generally $1,000 for corporate issues, with higher denominations for many government issues.

Participant

An employee who is eligible to either make contributions to the retirement plan or to share in employer contributions to the plan.

Participant contributions

The dollars that employees contribute to their 401k plans.

Participant directed account

A plan that allows participants to select their own investment options. See Participant Directed Investing.

Participant directed investing

In this case, the employee decides how to invest his or her funds. It is the company's responsibility to offer a variety of investment opportunities so that the employee can make investments according to his or her long term goals and risk.

Payout ratio

Dividends per share divided by earnings per share. Provides an indication of how well earnings support the dividend payments. The lower the ratio, the more secure the dividend.

PBGC

Pension Benefit Guarantee Corp. The PBGC is a guarantee fund, established by ERISA, which covers all defined benefit pension plans. Companies with a defined benefit plan must pay premiums into this fund according to the number of employees in the plan and the current ratio of assets to liabilities in the plan.

Plan administrator

The individual, group or corporation named in the plan document as responsible for day to day operations. The plan sponsor is generally the plan administrator if no other entity is named.

Plan document

A written instrument under which the plan is established and operated.

Plan fiduciary

Anyone who exercises discretionary authority or discretionary control over management or administration of the plan, exercises any authority or control over management or disposition of plan assets, or gives investment advice for a fee or other compensation with respect to assets of the plan.

Plan sponsor

The entity (generally the employer) responsible for establishing and maintaining the plan.

Plan trustee

Someone who has the exclusive authority and discretion to manage and control the assets of the plan. The trustee can be subject to the direction of a named fiduciary and the named fiduciary can appoint one or more investment managers for the plan's assets.

Plan vendor

Companies that administer, service and/or sell 401k plans. They are generally employed by the plan sponsor.

Plan year

The calendar or fiscal year for which plan records are maintained.

Portability

This occurs when, upon termination of employment, an employee transfers pension funds from one employer's plan to another without penalty.

Portfolio

The group of individual securities held by a person or an institution.

Premium bond

A bond that is valued at more than its face amount.

Present value

The value today of a future payment, or stream of payments, discounted at some appropriate interest rate.

Price-earnings ratio (P/E)

Market price per share divided by the firm's earnings per share. A measure of how the market currently values the firm's earnings growth and risk prospects.

Price-to-book ratio

Market price per share divided by book value (tangible assets less all liabilities) per share. A measure of stock valuation relative to net assets. A high ratio might imply an overvalued situation; a low ratio might indicate an overlooked stock.

Principal

The original amount of money invested or lent, as distinguished from profits or interest earned on that money.

Profit margin

Net earnings after taxes divided by sales. Measures the ability of a firm to generate earnings from sales.

Profit sharing plan

A defined contribution pension plan that uses a variable level of contributions based on company profits. Profit sharing plans allow firms to limit allocations to a pension fund in lean years. However, they suffer from lower maximum deduction limits than standard plans.

Program trading

Computer-based trigger points are established in which large volume trades are indicated. The technique is used by institutional investors.

Prohibited Transaction

Activities regarding treatment of plan assets by fiduciaries that are prohibited by ERISA. This includes transactions with a party-in-interest, including, sale, exchange, lease, or loan of plan securities or other properties. Any treatment of plan assets by the fiduciary that is not consistent with the best interests of the plan participants is a prohibited transaction.

Prospectus

The written statement that discloses the terms of a securities offering or a mutual fund. Strict rules govern the information that must be disclosed to investors in the prospectus. You should always read the prospectus on any mutual fund before investing.

Prudent Investor Rule

The latest development in evaluating fiduciary prudence. The current (1992) model uniform act differs from the traditional Prudent Man Rule in that it indicates that: (1) no asset is automatically imprudent, but must be suitable to the needs of the beneficiaries, (2) the entire portfolio is viewed when evaluating the prudence of a fiduciary, and (3) certain actions can be delegated to other agents and fiduciaries. ERISA [ § 404(a)(1)(C) ] generally follows the approach of the Prudent Investor Rule.

Prudent Man Rule

A rule originally stated in 1830 by the Supreme Judicial Court of Massachusetts in Harvard College v. Amory [ 9 Pick. (Mass.) 446 ], that, in investing, all that can be required of a trustee is that s/he conduct themself faithfully and exercise a sound discretion and observe how a person of prudence, discretion, and intelligence manage their own affairs not in regard to speculation, but in regard to the permanent disposition of their funds considering the probable income as well as the probable safety of the capital to be invested. The current (1959) model uniform rule categorizes certain types of assets as automatically imprudent, looks at each investment separately in determining prudence, and prohibits the delegation of responsibilities. Most states have adopted the Rule as a part of state fiduciary law, usually with certain different specifics from state to state.

Put option

The right to sell stock at a specified (exercise) price within a specified period of time.

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Qualified Default Investment Alternative (QDIA)

An investment option a plan sponsor may use for 401k plan contributions in the absence of direction from a plan participant.

Qualified Domestic Relations Order (QDRO)

A judgment, decree or order that creates or recognizes an alternate payee's (such as former spouse, child, etc.) right to receive all or a portion of a participant's retirement plan benefits.

Qualified Plan

A private retirement plan that meets the rules and regulations of the Internal Revenue Service. Contributions to such a plan are generally tax-deductible; earnings on such contributions are always tax sheltered until withdrawal.

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Real rate of return

The annual percentage return realized on an investment, adjusted for changes in the price level due to inflation or deflation.

Relative strength

Price performance of a stock divided by the price performance of an appropriate index over the same time period. A measure of price trend that indicates how a stock is performing relative to other stocks.

Required rate of return

The rate of return demanded to induce investors to invest in a security.

Retention ratio

The percent of earnings retained in the firm for investment purposes.

Return on equity (ROE)

A ratio calculated by dividing common stock equity (net worth) at the beginning of the accounting period into net income for the period after preferred stock dividends, but before common stock dividends. ROE tells common stockholders how effect their money is being employed.

Return

Consists of income plus capital gains (or losses) relative to investment.

Revenue bond

A municipal bond supported by the revenue from a specific project, such as a toll road, bridge, or municipal coliseum.

Risk/return trade-off

The balance an investor must decide on between the desire for low risk and high returns, since low levels of uncertainty (low risk) are associated with low potential returns and high levels of uncertainty (high risk) are associated with high potential returns.

Risk

Possibility that an investment's actual return will be different than expected; includes the possibility of losing some or all of the original investment. Measured by variability of historical returns or dispersion of historical returns around their average return.

Risk Tolerance

The extent to which an investor will accept risk in the pursuit of a financial reward. The greater an investor's tolerance, the more risk s/he will accept in order to reach their goal.

Rollover

An employee's transfer of retirement funds from one retirement plan to another plan of the same type or to an IRA without incurring a tax liability. The transfer must be made within 60 days of receiving a cash distribution. The law requires 20 percent federal income tax withholding on money eligible for rollover if it is not moved directly to the second plan or an investment company.

Roth 401k

A 401k feature that allows employees to make elective contributions on an after-tax basis. Withdrawals, generally after age 59½, of any money from the account (including investment gains) are tax-free.

Round lot

The basic trading block for stocks--usually 100 shares.


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