Volatility. Dividends. Index Funds. Margin Loans. There is a lot of jargon in the share market and understanding basic terminology can help to raise awareness and put you in a better position to develop your financial literacy.
Understand the basic terminology used in the share market
Want to understand what an Index Fund is but where too embarrassed to ask?
Take the quiz with a friend and see how you stack up!
Read each question carefully and answer YES or NO as indicated.
| Do you understand what volatility is and how it affects risk? | |
| Do you know what dividends are? | |
| Do you understand what an index fund is and why you might consider using it? | |
| Do you know what franking credits are and how they work? | |
| Do you understand what DRIP is and how it is commonly used? | |
| Do you understand what a margin loan is? | |
| Do you know what an indice (index) is ? | |
| Do you know what capital gains tax is? |
Volatility refers to the amount of uncertainty or risk about changes in the value of stocks or shares. A higher volatility means the value can potentially be spread out over a larger range of prices. It also means the price of the security can change dramatically over a short period of time in either direction. A lower volatility means that the value does not fluctuate dramatically, but changes at a steady pace over time.
Dividends are a distribution of net company profits, usually determined by the board of directors. Dividends can be issued as cash payments, shares, or other property. The board of directors determine the frequency of issuing dividends. However, frequencies are usually annually, biennially, and quarterly.
An index fund is a type of fund with a portfolio constructed to match or track the components of a market index, such as the S&P/ASX 200 Index. An index fund can provide broad market exposure, low operating expenses, and low portfolio turnover. Index funds adhere to specific rules or standards that remain in effect no matter the state of the markets.
Franking credits prevent the double taxation of dividends. In the United States, after a company has paid 35 per cent corporate tax on its pre-tax profit, individuals must then pay their full income tax on any dividends. In Australia, we overcome this double taxation through dividend imputation. Under this system, the Australian Tax Office recognises that corporate tax has already been paid on profits distributed as dividends. This already-paid tax can be transferred to investors using franking credits, reducing their tax liability.
DRIP stands for Dividend Reinvestment Plan. It's a common factor in blue-chip shares, where dividends paid out by companies are reinvested to acquire more shares in that same company at a premium price. It's also frequently used in the investment world to continue the acquisition of shares to increase capital in the company an individual or superfund may be invested in (without the brokerage costs attached).
A margin loan lets you borrow money to invest and uses your shares or managed funds as security. It can help you increase your returns but it can also magnify your losses.
Indices allow investors to gain insight into the performance of an asset class or a segment of that asset class. Indices are often used to benchmark the performance of portfolios designed to replicate the performance of a given asset class.
You pay tax on your capital gains. It forms part of your income tax and is not considered a separate tax – though it's referred to as capital gains tax (CGT).
