102 Percent Collateralization: 102 percent collateralization occurs when bank deposits or investments are collateralized with securities that have a market value exceeding the deposit or investment amount by 2%. (See "Collateral")
A1/P1 Rating: "A1" is the highest short-term rating category assigned by Standard & Poors, while "P1" is the highest short-term rating category for Moodys Investor Service. Examples of securities that are typically assigned these rating types are commercial paper and bankers acceptances. Securities that have been assigned both an A1 and a P1 rating are considered to be of high credit quality. Note: Standard and Poors designate certain securities within the A1 category with a plus sign (+) indicating that the issuer of the security has an extremely strong capacity to meet its financial obligations.
AAA-Rated: The "AAA" rating is the highest rating given to an investment by a national rating agency, indicating that the investment is very safe and is considered to have an extremely strong capacity to meet financial obligations.
A-Rating: An "A-rating" represents the formal evaluation of a securitys credit quality and ability to honor financial commitments. The rating is issued by a national rating agency. An "A-rating" indicates that the security issuer has a strong capacity to meet its financial obligations.
Accretion: Accretion is an accounting method for the income associated with a zero coupon security, where the difference between the discounted purchase price and the par (face) value of the security is credited to an income account. This method gradually raises the book value of the security until it reaches par (face value) at maturity. A basic example of straight line accretion: A $1 million par value (face value) Federal Home Loan Bank discount note with a zero coupon is purchased for $970,000. The discount on the note to be accreted is $30,000 ($1,000,000 face value - $970,000 purchase price = $30,000 discount). This discount note will mature in six months, so each month, $5,000 ($30,000 discount divided by 6 months) will be credited to an income account. The offsetting debit will be to the investment account. This gradually raises the security book value of the note towards par (face value of $1 million) as the discount note matures.
Accrual: Accrual is the most common form of accounting, which reports income when earned and expenses when incurred. Accrual accounting may be contrasted to accounting on a cash basis, in which income is reported when received and expenses are reported when paid.
Accrued Interest: Accrued interest is the accumulated interest due on a security as of the last interest payment made. A security is always sold with its accrued interest included. Investors who buy securities in the secondary market will be required to purchase any interest on the securities that has accrued prior to settlement. This is because the previous owner of a security earned the income, but will not receive future coupon payments.
Advanced Refunding: Advanced refunding is the technique of replacing one bond issue with another bond issue. Advanced refundings typically occur when a municipality can borrow at more favorable terms than the terms of an outstanding bond issue. The new bond issues proceeds are used to purchase government securities that are held in escrow. The principal and income from these government securities are then used to service the outstanding debt. The escrow may be held until the first call date or until the maturity of the initial bond issue. If the escrowed funds retire the original issue at the first call date, then the bond issue is pre-refunded. This process of retirement and replacement of debt is also known as defeasance.
Agencies: "Agencies" is a general term that may be used to refer to agency securities.
Agency: In securities trading, the term "agency" refers to a government agency other than the United States Treasury; for example, the Federal Home Loan Mortgage Corporation.
Agency Coupon Note: An agency coupon note is a coupon note that has been issued by a U.S. government-related agency other than the U.S. Treasury. (See Agency Security)
Agency Discount Note: An agency discount note is a discount note that has been issued by a U.S. government-related agency other than the U.S. Treasury. (See Agency Security)
Agency Note: An agency note is a note that has been issued by a U.S. government-related agency other than the U.S. Treasury. (See Agency Security)
Agency Security: An agency security is a security, such as a bond, which is issued by a federal agency other than the U.S. Treasury. The agency security may or may not be backed by the full faith and credit of the United States government, depending upon the issuing government agency. Examples of agency securities, or agencies, include those issued by the Federal National Mortgage Association, the Federal Home Loan Bank, the Federal Home Loan Mortgage Company, and the Federal Farm Credit Bank.
American Institute of Certified Public Accountants (AICPA): The American Institute of Certified Public Accountants is the national association for certified public accountants. It establishes the Generally Accepted Accounting Principles (GAAP) that are widely used by the accounting profession.
American Stock Exchange (AMEX): The American Stock Exchange is the second largest stock exchange in the United States. Generally, stocks traded on the American Stock Exchange are those of small to medium-sized corporations. (Stocks are not authorized investments for school districts under the Public Funds Investment Act)
Amortization: Amortization is an accounting practice that gradually reduces the cost or book value of an asset through periodic charges to income. Amortization gradually reduces net income when a security is purchased at a price that exceeds par (face value). For a fixed asset, such as a building, the term used to describe amortization is depreciation. For natural resources such as oil reserves, the term used to describe amortization is depletion. For a mortgage-backed security, the reduction in the cost value, or amortization, of the asset is accomplished through periodic repayments of both principal and interest. The purpose of amortization is to reflect an assets resale or redemption value. A basic example of straight-line amortization is as follows: A $1 million par (face value) Federal Home Loan Bank 7 percent coupon note is purchased for $1,020,000. The purchase price is $20,000 more than its par (face) value of $1 million. The premium to be amortized is $20,000. This coupon note will mature in 10 months, so each month, $2,000 (1/10 of $20,000) will be debited against an income account. The offsetting credit will be to the investment account that will gradually lower the book value of the note towards par (face value of $1 million) as the note matures.
Arbitrage: Arbitrage occurs when a school district invests its bond proceeds at an interest rate higher than the overall borrowing yield on its bond issue. As it relates to tax-exempt bonds, arbitrage is the ability to invest proceeds received from the sale of tax-exempt debt in higher-yielding taxable securities. For example, if a tax-exempt bond issue is sold at a yield of 5.5% and the proceeds are invested in taxable securities of 6.75%, arbitrage of 1.25% (6.75% 5.5%) is being earned.
Arbitrage Bonds: A bond is considered to be an arbitrage bond when the bond issuer has not met the Internal Revenue Service requirements and the bond is no longer deemed to be tax-exempt. Bondholders (e.g., school districts) must pay income taxes on their investment if their bonds become arbitrage bonds.
Arbitrage Profit: Arbitrage profits represent the interest earned from investing bond proceeds that are in excess of the amount that would have been earned if all of the investments had a rate equal to the yield on the bond issue. (See Arbitrage)
Arbitrage Rebate: Arbitrage rebate is the payment of arbitrage earned on the investment of bond proceeds to the Internal Revenue Service in accordance with the requirements of Section 148 of the Internal Revenue Code. (See Arbitrage)
Arbitrage Yield: Arbitrage yield is a rate equal to the overall effective interest rate paid on a tax-exempt bond issue. (See Arbitrage)
Arms Length Transaction: An arms length transaction is a transaction between unaffiliated parties. Arms length transactions are assumed to be at a fair market value (See Fair Market Value)
Ask Price: The ask price is the price at which a security is offered by a broker or dealer. In general, the ask price is the lowest price at which a dealer will sell a security. The ask price is also the price at which a governmental entity will typically buy a security. An ask price may also be referred to as an offer or offering price.
Asset: An asset is the value of property and other resources owned by an individual, organization, or corporation.
Asset Allocation: Asset allocation refers to the distribution of an investors funds among several different types of investment instruments; e.g., U.S. Treasuries, agencies, and investment pools. The objective of allocating an investors assets is to diversify the investors market risk (the risk that the price of a security will drop) and the investors credit risk (the risk that the issuer of a security will default or fail), while obtaining the greatest possible market return that is consistent with the investors risk tolerance.
Asset-Backed Securities: Asset-backed securities are securities backed by notes or receivables against assets. Examples of asset-backed securities include automobiles, credit cards, and royalties. Asset-backed securities are not authorized investments for public school districts under the Public Funds Investment Act.
Association for Investment Management and Research (AIMR): The Association for Investment Management and Research is an international nonprofit association, headquartered in the United States, that promotes standards, ethics, and professionalism in the investments industry. AIMR also administers the Chartered Financial Analyst (CFA) program.
Average Weighted Maturity: (See Weighted Average Maturity)
Back-End Load: Back-end load is the price that an investor pays for withdrawing money from an investment. Back-end loads are most common in mutual funds. Back-end loads generally decrease for each year that an investor remains invested in a security. Back-end loads may also be referred to as deferred sales charges.
Bankers Acceptance: A bankers acceptance is a money market instrument that is used to finance import or export transactions. Bankers acceptances are essentially checks. They represent a banks promise and ability to pay the face or principal amount on the bankers acceptance on the stipulated maturity date. Maturities for bankers acceptances are generally less than three months. Bankers acceptances are authorized investments under the Public Funds Investment Act. Any bankers acceptance purchased by a public entity must have a stated maturity of 270 days or less, be eligible for collateral for borrowing from a Federal Reserve Bank, be liquidated in full at maturity in accordance with its terms, must be accepted by a bank organized and existing under federal or state law, and the short term obligations of the bank must be rated not less than A1/P1 or an equivalent rating by at least one nationally recognized credit rating agency. Similar to a Treasury bill, a bankers acceptance typically does not have a coupon, is issued at a discount, and matures at par (face value).
Basis Point: A basis point is a unit of measurement used to assign value to fixed-income securities. One basis point is equal to 1/100 of 1 percent of yield (the rate of return on a capital investment). For example, 1/4 of 1 percent is equal to 25 basis points. A bonds yield (rate of return) that increases from 8% to 8.25% could be described as rising 25 basis points.
Bear Market: The term bear market is used to describe a period in which security prices decline. Bear markets are generally caused by worsening economic conditions and/or rising interest rates. A bear market is the opposite of a bull market. Note: when bond prices are falling, yields are rising. Thus in a bear market, Treasury yields are increasing.
Bearer Bond: (See Coupon Bond)
Benchmark: A benchmark is an index used to compare risk and performance to a managed portfolio. A good benchmark should be verifiable, easy to understand and appropriate to the investment portfolio to which it is being compared. Typical benchmarks used in the public sector include three-month, six-month, and one-year Treasury bill averages over an identical measurement period. The benchmark selected should have a similar maturity to the investment portfolio under examination.
Benchmark Rate: A benchmark rate is the current or historical rate associated with a benchmark. (See Benchmark)
Benchmark Yield: (See Benchmark Rate)
Bidding Agent: A bidding agent is a person who acts on behalf of a school district in competitively bidding investments to be purchased by the district. For example, school districts generally use a bidding agent when investing bond proceeds in a flexible repurchase agreement. The bidding agent insures that a market rate of return is obtained through a competitive process that complies with the requirements of both state and federal law, including the bidding rules imposed by the Internal Revenue Service.
Bid Price: A bid price is the price offered by the seller of a security; e.g., the bid price for a bond. The bid price is also the price at which an investor will sell a security. When selling a security, the seller will ask a broker for a bid. A bid price may also be referred to as an ask price.
Bond: A bond is a long-term debt obligation issued by a government, corporation or municipality that pays interest at regular intervals and returns the face value of the bond upon maturity (the point at which the bond is due and payable). Examples of bonds include corporate bonds, government bonds and municipal bonds.
Bond Anticipation Note: A bond anticipation note is a short-term debt instrument issued by a state or municipality that will be paid off with the proceeds of an upcoming bond issue.
Bond Counsel: Bond counsel is a law firm or attorney who reviews a new bond issue and issues a legal opinion regarding the bond issue.
Bond Covenant: A bond covenant is a legal requirement related to the sale of a bond issue. Bond covenants include rules for the payment of debt service, investment of bond proceeds, retirement of debt and remedies for default. School districts that issue bonds must comply with the provisions contained in the bond covenants, which are designed to protect the investors in the bonds.
Bond Equivalent Yield: A bond equivalent yield is a calculation that relates discounted rates (e.g., the rates for Treasury bills and agency discount notes) to a bond standard. It is typical for discounted paper to be computed on the basis of a 360-day year, whereas bonds are usually computed based on a 365-day year. If this equivalency (360 days versus 365 days) is not done, then the quoted short-term rates for the discounted instruments may be understated.
Bond Issuance: A bond issuance is the process of selling taxable or tax-exempt debt to investors.
Bond Proceeds: Bond proceeds are the cash received from the sale of taxable or tax-exempt debt to investors.
Book Entry: Book entry is the name given to securities whose ownership and transfer occurs on a computer system, rather than the physical delivery of the securities. The U.S. Federal Reserve Bank maintains the system for treasuries and agencies.
Book Value: The book value of a security is the value at which the security is carried in the financial records of an investor. A securitys book value reflects the price at which the security was originally bought, plus the net amortization/accretion up to that point in time.
Broker: A broker is an individual who brings securities buyers and sellers together in return for a commission or fee. The broker takes no position in a securities trade and does not act as a principal or own securities. A broker will assist an investor in buying and selling treasuries, agencies, commercial paper and other authorized investments.
Bullet: A bullet is a type of security that repays the entire principal on its maturity date. Prior to the maturity or prepayment of the security, interest payments are made in accordance with the payment schedule.
Bull Market: A bull market occurs when there are increases in the price of stocks, bonds or other securities. A bull market is caused by favorable market conditions that produce lower interest rates. A bull market is the opposite of a bear market.
Call: (See Call Option)
Call Date: A call date is the date at which the option to redeem (call) a security may be exercised.
Call Option: A call option is an option that allows the issuer of a security to redeem the security prior to its maturity date.
Call Price: A call price is the price at which a security such as a bond can be redeemed (repurchased) by the issuer of the security. Agency securities are typically called at par (face value).
Call Protection: A security such as a bond is said to have call protection if: (1) the bond states that the option to redeem the bond can be exercised only after a given number of years or at a price greater than the par (face) value of the bond, or (2) the bond is not callable.
Call Provision: A call provision allows the issuer of a security to redeem or "call" the security prior to its maturity date. This means that the principal amount of the security will be returned to the investor along with any accrued interest on the call date. A callable security will carry a higher yield than a non-callable security, however investors may find themselves reinvested in the returned principal at a lower yield. If a security states that this provision can be exercised after a given number of years, or at a price greater than the par (face) value, or if the security is not callable, it is said to have call protection.
Call Risk: A call risk is a type of investment risk in which a security may be called, or redeemed, prior to its maturity (the point at which it is due and payable). If a security is called prior to its maturity, the buyer will not be able to reinvest the principal for the same or a higher rate of return.
Callable Bond: A callable bond contains an option that grants the issuer of the bond (an agency such as the Federal National Mortgage Association or the Federal Home Loan Mortgage Corporation) the right to mature the security early and return the full principal amount to an investor along with all accrued interest. The issuer of the bond will only call the bond away early if interest rates fall, at which time new bonds can be issued at lower interest rates. An investor in a callable security such as a callable bond earns a higher yield, but is also subject to reinvestment risk.
Callable Security: A callable security is a security that has an option that can be exercised by the issuer of the security to redeem the security prior to its maturity date. (See Callable Bond)
Capital Asset: A capital asset is an asset, the cost of which may be capitalized for financial statement purposes. Buildings and equipment are examples of capital assets.
Capital Gain: A capital gain represents the difference between an assets or securitys purchase price and its selling price, when the difference between the two amounts is positive. Thus if an asset is bought for $50 million and sold for $75 million there is a capital gain of $25 million.
Capital Investment: A capital investment is the money paid to purchase (invest in) a capital asset.
Capital Loss: A capital loss is the difference between a securitys or assets purchase price and its selling price, when the difference between the two amounts is negative. Thus if an asset is bought for $50 million and sold for $25 million there is a capital loss of $25 million.
Capitalized Investment: A capitalized investment is an investment that is classified as long term, rather than being charged to current operations.
Cash Flow: Cash flow equals cash receipts minus cash payments over a given period of time.
Cash Flow Analysis: A cash flow analysis is an analysis of the change in revenues and expenditures that affect a school districts cash balance. Positive cash flows occur when more cash comes into a school district than is expended. Negative cash flow occurs when expenditures are greater than the amount of cash coming into the school district. Even financially sound school districts may experience periods during a normal year when there is not enough cash to cover their operating expenses. Cash flow analysis will help school districts to better understand their revenues and expenditures.
Cash Flow Forecasting: Cash flow forecasting is the process of developing and monitoring a cash flow analysis. (See Cash Flow Analysis)
Certificate of Deposit (CD): A certificate of deposit is a time deposit issued by a bank that pays interest periodically or at a specific maturity date, as evidenced by a certificate. The bank issues a certificate that indicates a specific dollar amount has been deposited with that bank for a fixed period of time at a predetermined interest rate. Large denomination CDs are typically negotiable; i.e., they can be sold or exchanged. There is normally a penalty for early withdrawal of a CD (time deposit).
Certified Financial Planner (CFP): A certified financial planner is a financial planner who has been certified through passing a series of examinations in insurance, investments, taxes, employee benefit plans and estate planning.
Chartered Financial Analyst (CFA): A chartered financial analyst is a financial analyst who has passed a series of three annual exams and has met all qualifications as per the Association for Investment Management and Research (AIMR).
Collateral: Collateral consists of securities, evidence of deposits or other property that a borrower pledges to secure repayment of a loan. Collateral also refers to securities pledged by a bank to secure deposits of public monies that are not otherwise insured by the Federal Deposit Insurance Corporation (FDIC) or the FDICs two insurance units: the Savings Association Insurance Fund and the Bank Insurance Fund.
Collateral Risk: Collateral risk is the risk that the market value of collateral pledged to secure a deposit or an investment will not be sufficient to pay the principal of the investment.
Collateralization: Collateralization is the process of obtaining collateral on an investment or deposit. (See Collateral)
Collateralized Mortgage Obligation: A collateralized mortgage obligation is a derivative mortgage-backed security created from pools of home mortgage loans. A single collateralized mortgage-backed security is divided into several different classes, or tranches, each class containing a unique risk profile and characteristics. A few classes of collateralized mortgage obligations are considered legal investments in Texas, but most of the structures available do not meet the legal definition outlined in the Public Funds Investment Act (Section 2256.009, Texas Government Code). Additionally, eligible collateralized mortgage obligations must have a final stated maturity not to exceed ten years.
Commercial Paper: Commercial paper is defined as unsecured short-term obligations with maturities ranging from one to 270 days issued by banks, corporations and other borrowers. This type of investment is usually issued at a discount and carries a zero coupon. The accounting process for commercial paper is identical to the accounting process for a Treasury bill. Under Texas state law, to qualify as an authorized investment, commercial paper must have a stated maturity of 270 days or less and must carry a minimum credit rating of A1/P1 as assigned by at least two national credit rating agencies or as assigned by one nationally recognized credit rating agency while being fully secured by a letter of credit issued by a bank organized under federal or state law. (See A1/P1 Rating)
Commingle: To commingle is to blend or mix; e.g., funds or investments.
Commodity: A commodity is a bulk good such as grain or food that is sold on a commodities exchange. (Commodities are not authorized investments for school districts under the Public Funds Investment Act)
Common Share: (See Common Stock) (Stocks are not authorized investments for school districts under the Public Funds Investment Act)
Common Stock: A common stock is a type of ownership in a company in which shares of stock are held. Common stocks represent an equity interest in a company. (Stocks are not authorized investments for school districts under the Public Funds Investment Act)
Compensating Balance: A compensating balance is the amount of money that a bank requires a customer to maintain in a non-interest bearing account, in exchange for which the bank will provide otherwise free services.
Compound Interest: Compound interest is interest earned on principal plus the interest that was earned previously. Thus if, for example, $100 is deposited in a bank account at 10 percent interest, the depositor will be credited with $110 at the end of the first year ($100 principal plus $10 interest). In the second year, the 10 percent interest rate will be applied to the $110 balance so the depositor will be credited with $11 in interest and the total balance will rise to $121. If the account earned simple interest, the depositor would receive $10 each year, despite the fact that the balance is rising each year.
Constant Dollar Fund/Pool: A constant dollar fund or pool is a type of money market fund that offers safety of principal and liquidity. The fund maintains a stated objective of a $1 dollar share value for all participants, which means that the dollar value of the original deposit is expected to be maintained through conservative management practices. Securities and Exchange Commission-registered money market funds maintain a limited 90-day weighted average maturity. AAA-rated money market funds usually require a 60-day weighted average maturity.
Consumer Price Index: The consumer price index is a measure of change in the price of goods and services. This index measures items such as food, housing, transportation, medical care, clothing, utilities and services in selected cities across the country. The U.S. Bureau of Labor Statistics measures the Consumer Price Index monthly.
Continuous Call Option: A continuous call option is a type of call option on a security in which the issuer of the security maintains the right to repurchase it from the buyer at any time after the initial call date has passed.
Coupon: A coupon is the interest rate paid on a security. For example, a certificate of deposit paying 6.00% interest is said to have a 6% coupon rate. A coupon is also a paper document that is evidence of a promise to pay on bearer instruments. A coupon is usually attached to a debt security. When the due date arrives, the coupon is detached and submitted for payment.
Coupon Bond: A coupon bond is a bond for which coupons for interest payments are attached at the time of issue. When interest on the bond is due, the matching coupon is exchanged for the interest payment on the bond.
Coupon Payment: A coupon payment is the periodic receipt by an investor of interest earned on an investment. For example, the interest paid by the federal government to investors in U.S. Treasury Notes every six months represents the coupon payment on the notes.
Coupon Rate (Coupon Rate of Interest): A coupon rate for a bond is the fixed annual rate of interest on the bonds face value that the bonds issuer promises to pay the bondholder. A certificate attached to the bond shows the interest due on each payment date.
Credit Risk: Credit risk is the risk that the issuer of a security will default or fail or that the issuers credit rating will be lowered. If one of these events occur, part or all of the invested principal in the security could be lost. Credit risk is a factor to consider when purchasing commercial paper or bankers acceptances.
CUSIP (Committee on Uniform Securities Identification Procedures): The Committee on Uniform Securities Identification Procedures assigns codes to securities for the purpose of identification. These codes are often referred to as a securitys CUSIP number.
CUSIP Number: A CUSIP (Committee on Uniform Securities Identification Procedures) is a nine-digit identification number for a specific security. Every security is assigned a unique CUSIP number.