The Most Important Investing Terms You Need to Know

Investing is intimidating, but it doesn't have to be. Many people balk at the thought of starting an investment portfolio because they think that they need a degree in finance or that they don't know enough about how markets work, or that investing is too risky.

The truth is anybody can start investing with little money and no experience. The key is to educate yourself about the workings of a marketplace and pick a strategy that fits your risk profile.

To get the ball rolling, you only need to have a basic understanding of investing terms. A few of the most commonly used terms associated with buying and selling stocks. They're helpful when you conduct your own research or discuss options with a financial advisor.

Don't worry if you don't understand some of these words or phrases at first. Learning about investing can take time, but it's worth the effort. The more knowledgable you are about what's happening on Wall Street, the more comfortable you'll feel about your own investments.

1. Market cap

Market cap (or MCAP) is short for market capitalization, which is the total market value of a company's outstanding shares. Market cap can also refer to the percent of that market represented by a particular stock. For example, if Company X has 1 million shares worth $20 each and there are 100 million shares of Company X on the market, then Company X has a market cap of $200 million (1 million x $20 = $200 million).

Market-cap weighting is a strategy in which every stock represented in an index has the same percentage of that index based on its market cap. For example, if Company X has 1 million shares worth $20 each and there are 100 million shares of Company X on the market, then Company X has a market cap of $200 million (1 million x $20 = $200 million).

In a market-cap weighted index , Company X would have a weighting of 1 percent, because that's the % of the total value represented by those shares.

2. All-time high

An all-time high is the highest price a stock has ever reached. A new all-time high indicates that an upward trend is continuing and that the momentum behind a company's performance hasn't slowed down yet.

3. P/E ratio

The price-to-earnings (P/E) ratio is one of the most common ways to measure how expensive a share of stock is.

To determine the P/E ratio, you divide the current price of a share by its earnings per share (EPS) . For example, if Company X has an EPS of $4 and the price of a single share is $100, then its P/E ratio is 25 ($100/$4 = 25).

A low P/E ratio usually indicates that a stock is undervalued and therefore a good investment. A high P/E ratio could mean that it's overvalued, which could lead to downward price pressure in the future.

4. Dividend yield

The dividend yield is often used as a proxy for the return on an investment, because it's the percentage of your initial investment that you're paid back in dividends. To calculate the dividend yield, take the annual dividend divided by the share's current price.

For example, if Company X pays out $1 per share and its stock is currently trading at $20, then its dividend yield is 5 percent (1/$20 = 0.05).

5. The dip

The dip is what many call the downturn after a stock's initial rise in price. Investors often take advantage of dips to buy into a stock before it resumes its upward swing, because that means that they're getting shares at an even lower price than they would have if they bought them when the stock was at $20.

6. Dividend reinvestment plan (DRIP)

A dividend reinvestment program is offered by some companies and they allows you to save money on commissions by reinvesting your dividends directly into more shares of stock through the company's DRIP . That way, instead of reeiving cash dividends, you accumulate shares in the company and save on commissions when you eventually buy.

7. Short selling

Short selling is a technique investors can use when they anticipate that a stock price will decline in the future and want to profit from it. To short sell , you first borrow shares of stock (usually from your broker) and then immediately sell them for whatever price they're trading at in the market.

If and when the price of that stock declines below what you sold it for, then you can repurchase it (also known as "covering") at that lower rate and return the shares to your broker. The difference between what you previously sold it for and what you bought it for is your profit (or loss).

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