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| INVESTMENTS: GLOSSARY OF TERMS |
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Below is a list of financial terms and concepts. Please
click on a starting letter range below for explanations to the most commonly
used financial terms and concepts in MOSERS' investment industry.
A-C |
D-F | G-I |
J-L | M-O |
P-R
| S-U | V-Z
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A-C |
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| Active Management |
An approach to money management where the manager
seeks to beat a predefined benchmark. Typically, higher fees are
associated with this type of management, as you are paying a money
manager for their ability to “add value” relative to
passively investing in the benchmark. These managers typically take
on greater “benchmark risk”(i.e. a greater likelihood
of deviating from the benchmark). |
| Actuarial Accrued Liability |
The present value of the estimated cost of benefits payable to
active and retired members covering service rendered prior to the
date of an actuarial valuation as determined by use of assumptions
about the future and an actuarial cost method. |
| Actuarial Assumptions |
Assumptions which are made for the purposes of determining the
contribution which must be made in order to fund the future liabilities.
Actuarial assumptions are generally grouped into two categories:
demographic (i.e. life expectancy, rate of retirement, number of
years worked, etc.) and economic (inflation rate, the return on
investments, etc.). |
| Alpha |
This is a measure used to determine a manager’s contribution
to performance based upon security selection. On a technical level,
it is the excess return of a portfolio above the portfolio’s
benchmark adjusted for risk. A positive alpha indicates that a manager
added value relative to the risk they took on. A negative alpha
indicates that the manager lost money relative to the risk they
took on. |
| Alternatives |
As it relates to MOSERS, this asset class includes two distinct “sub-asset classes” which include real assets and private investments. Portfolios within these could include REITs/private real estate, commodities, timber, private equity, and private debt (distressed debt). |
| Arbitrage |
A technique employed to take advantage of price differences in
similar/identical markets, traded in different geographies across
the globe. |
| Asset Allocation |
This is the process of diversifying investments among a variety
of asset classes. Through this process, risk to the portfolio is
reduced, as it is expected that the various asset classes will act
differently under a variety of economic scenarios. |
| Asset Class |
A group of investments that share similar characteristics. Types of asset classes include public equity (stocks), public debt and various alternative investments such as commodities, timber, real estate and private equity. |
| Basis Point |
A unit of measurement equal to 1/100th of one percent. For example,
0.53% is equal to 53 basis points. 1.00% is equal to 100 basis points. |
| Benchmark |
A tool utilized to measure the performance of a manager relative to the universe of securities in which they invest. Typically, benchmarks consist of a broad array of investments within a particular market. Commonly used benchmarks for MOSERS include the MSCI ACWI (Morgan Stanley Capital International Europe, All Country World Index) used to compare our public equity managers and the Lehman Aggregate Bond Index used to compare our core fixed income managers. |
| Beta |
This is a measure used to determine a portfolio’s sensitivity
to movements in a particular market or asset class. In technical
terms, it is the expected percentage change in return for a portfolio
based upon a 1% change in the market or asset class. For example,
if the S&P 500 is up 1% for the month and a portfolio has a
beta of 1.2, you would expect the portfolio to be up 1.2% (or 20%
more than the market). In contrast, if a portfolio has a beta of
.8, this indicates that if the market is up 1% for the month, this
portfolio will be up .8%(or lagging 20% relative to the market).
Essentially, beta helps to measure a portfolios risk (volatility)
relative to the market or asset class it is compared to. |
| Call Risk |
The cash flow risk which results in the bond portfolio when a
bond has a “call” option. Essentially, the issuer of
the bond may “call” the bond back (paid off by the issuer)
usually so the issuer can issue new bonds at a lower interest rate.
If a bond is called, this forces the investor in the bond to reinvest
the principal sooner than expected, usually at a less advantageous
interest rate. |
| Commodities |
A physical substance such as grain, cattle, hogs, oil, etc. that
is interchangeable with another product of the same type. Investing
in commodities provides a diversification benefit to virtually any
portfolio due to the low correlation to traditional asset classes
such as stocks and bonds. Commodities have, in the past, served
as a cushion to the portfolio when downturns in financial assets,
such as stocks and bonds, occur as a result of unanticipated or
rapid inflationary forces. |
| Core Fixed Income |
Core fixed income is a sub-asset class that consists of traditional
bond investments. The core fixed income allocation is intended to
provide a source of current income and reduce overall fund volatility.
In addition, it is expected to perform well during periods of disinflation
and/or outright deflation. Portfolios within this allocation are
invested in some or all of the following instruments:
Treasuries: These are highly liquid securities
issued by the United States Treasury that are backed by the full
faith and credit of the United States government, and thus are
perceived as having no credit risk.
Agencies: These are securities, usually very
liquid, issued by either federally related institutions (arms
of the federal government) or by government sponsored enterprises
(GSEs) which are typically privately owned, but have an important
public purpose and strong ties to the U.S. government. The Agency
market is primarily comprised of GSEs which are typically not
backed by the full faith and credit of the U.S. government, and
thus investors purchasing GSEs are exposed to credit risk, albeit
considered minimal due to the agencies’ importance and relationship
to the government.
Mortgage-backed Securities (MBS): These are highly
liquid instruments that are also very high in quality due to the
dual backing of both the issuer’s credit worthiness as well
as the underlying mortgage collateral (primarily residential but
some commercial). Agencies, most notably GNMA, FNMA and Freddie
Mac, are the primary issuers of MBS with some issuance coming
from private mortgage originators and banking institutions. The
primary risk associated with MBS is the prepayment risk associated
with the underlying mortgage collateral (long term investors receive
their investment back prematurely due to refinancing activity).
Investment-grade Corporate Securities: These
are securities issued by corporations that carry an investment
grade credit quality rating ranging from AAA to BBB. The degree
of credit quality associated with these bonds is lower than that
of Agencies but above that of high-yield bonds. Corporations can
be U.S. or International. Any non-dollar International holdings
would be largely hedged back to the U.S. dollar. Liquidity characteristics
of corporate securities can vary greatly—they are clearly
less liquid than Agencies and the most common types of MBS.
Asset-backed Securities (ABS): These are very
high quality (typically the highest investment grade rating) securities
due to their backing by over-collateralized liquid assets such
as car loans and credit card receivables, to illustrate some examples
of the types of underlying collateral. ABS typically have short-intermediate
maturities and are usually very liquid.
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| Correlation |
The simultaneous change in value of two numerically valued random
variables. |
| Correlation Coefficient |
A measure that determines the degree to which two investment’s
movement are related. If two investments have perfect positive correlation
(+1), you would expect them to move in lock-step with one another.
If two investments have perfect negative correlation (-1) you would
expect them to move in the mirror image of one another. Between
perfect positive and perfect negative (+1 or -1) you have a scaled
relationship between the two investments. A correlation of zero
(0) implies no relationship between the movements of the two investments.
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| Current Yield |
The annual rate of return on an investment, expressed as a percentage.
For bonds and notes, it is the coupon rate divided by the market
price. For stocks, it is the annual dividends divided by the purchase
price. |
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D-F |
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| Derivative |
A financial instrument whose value and characteristic
is derived from the performance of some underlying investment, such
as a stock, bond, commodity, or currency. Derivatives are often
used to help large investors manage their risks and gain exposure
to various investments at a relatively low cost compared to holding
the underlying asset. Examples of derivatives include futures and
options contracts. |
| Domestic Equity |
This sub-asset class consists of stocks in U.S. companies. A stock
essentially represents ownership in a company. This sub-asset class
seeks to provide long-term capital appreciation and dividend income
that together exceed inflation. Domestic Equity may include large,
medium, and small capitalization stocks and stocks of differing
investment styles (i.e. growth, value, active, passive, etc.). Descriptions
of each style are as follows: Large Capitalization Growth
Stocks: These are stocks whose market capitalization
is in excess of $5 billion according to the Morningstar database.
In addition, these stocks possess the characteristics of growth
companies, which in technical terms means that their price-to-earnings
ratio is greater than the market average. It is expected that
these stocks have the potential to increase earnings per share
at a faster rate than the average stock within the market.
Large Capitalization Value Stocks: These are
stocks whose market capitalization is in excess of $5 billion
according to the Morningstar database. In addition, these stocks
possess the characteristics of value companies, which in technical
terms means that their price-to-earnings ratio is below the market
average. These stocks are typically associated with mature companies
that are expected to payout a larger portion of their income in
the form of dividends than their growth counterparts as opportunities
to reinvest this income back into the company at above average
growth rates are limited.
Small Capitalization Growth Stocks: These are
stocks whose market capitalization is below $1 billion according
to the Morningstar database. In addition, these stocks possess
the characteristics of growth stocks, which in technical terms
means that their price-to-earnings ratio is greater than the market
average. It is expected that these stocks have the potential to
increase earnings per share at a faster rate than the average
stock within the market.
Small Capitalization Value Stocks: These are
stocks whose market capitalization is below $1 billion according
to the Morningstar database. In addition, these stocks possess
the characteristics of value companies, which in technical terms
means that their price-to-earnings ratio is below the market average.
These stocks are typically associated with mature companies that
are expected to payout a larger portion of their income in the
form of dividends than their growth counterparts as opportunities
to reinvest this income back into the company at above average
growth rates are limited.
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| Due Diligence |
The process of investigating the details of potential and ongoing
investments and managers by investors. The details include examination
of the operations, management and verification of the material facts
surrounding the investment. |
| Duration |
This is a measure that reflects the change in the value of a fixed
income security that will result from a 1% change in interest rates.
Duration is stated in years. For example, 3 year duration means
the bond will decrease in value by 3% if interest rates rise 1%
and increase in value by 3% if interest rates fall 1%. Duration
is used as a measure of the volatility of a bond. Generally, the
higher the duration (the longer an investor needs to wait for the
bulk of the payments), the more its price will drop as interest
rates go up. Of course, with the added risk come greater expected
returns. If an investor expects interest rates to fall during the
course of the time the bond is held, a bond with a long duration
would be appealing because the bond's price would increase more
than comparable bonds with shorter durations. |
| Efficient Frontier |
This is the line on the risk/return graph which reflects all of
the “efficient portfolios” one can invest in, given
the investment choices available. An efficient portfolio is a portfolio
that provides the greatest expected return for a given level of
risk, or the lowest risk for a given expected return. |
| Emerging Markets Equity |
Emerging Markets Equity is a sub-asset class consisting of equity
investments in companies in countries where the per capita income
is below a predetermined level. Examples of emerging market countries
include India, Brazil, South Africa, Mexico, Russia, Malaysia, Turkey,
Poland, South Korea, Chile, and China to name a few. Emerging Markets
Equity seeks to provide an opportunity for long-term capital appreciation
in excess of inflation. This sub-asset class invests in countries
where higher growth rates are expected, and thus one would expect
higher returns. The emerging markets allocation provides another
level of diversification for the total portfolio. Experience has
shown that the emerging markets can be very volatile, however, as
a part of the total portfolio, it can serve as an additional diversifier,
reducing risk for the entire portfolio. |
| Futures Contract |
A standardized, transferable contract that trades on an organized
exchange that requires delivery of a specified investment (stock
index, stock, bond, currency) at a specified price at a predetermined
date. Essentially, this allows one to replicate the performance
of an investment without holding the underlying investment. (i.e.
you can obtain the return of the S&P 500 by owning an S&P
500 futures contract and you don’t have to own all 500 stocks
in the S&P 500 index.) |
| Funded Ratio |
This number reflects the percentage of total liabilities that
the System has already funded based upon the actuarial value of
the assets. For example, if the System has a funded ratio of 96%,
it implies that the System could pay 96 cents of every $1 owed to
beneficiaries at that point in time. |
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G-I |
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| Hedged Equity |
Hedged equity represents a strategy within our public equity asset class. It is expected that hedged equity will have high correlation to equities; however, it will be considerably less volatile helping to dampen the overall risk of MOSERS equity program during difficult times for stocks. This strategy utilizes marketable alternative managers who are both long and short various positions within the market. These managers may utilize leverage as allowed within their governing documents. These managers seek to control risks and maintain a focus on absolute returns. The inherent nature of these strategies will likely result in returns that lag the equity market during times when equities are performing above the long-term averages and visa versa when equities are performing below the long-term average. |
| High Yield Bonds |
This sub-asset class consists of investments in bonds issued by
companies with below investment grade credit quality. High yield
bonds provide high current income to the portfolio, while providing
opportunities for capital appreciation when purchased at opportune
times. This allocation is viewed as a tactical one, in that appropriateness
of an allocation will be dependent upon the valuation of these investments
and our perception of where we are in the economic cycle. Generally,
we would expect allocations to this sub-asset class to increase
at the tail-end of an economic recession and decrease as the economy
recovers. Credit quality of these securities ranges from BB to CCC
and are in non-default status. Investments in this portfolio may
include both U.S. and non-U.S. issuers. |
| Information Ratio |
This is a measure used to determine how effectively a manager
is able to add excess return above a benchmark (alpha) relative
to the risk (tracking error) they have taken above the risk of their
benchmark. The higher the information ratio the better the risk
adjusted return of the manager has been. |
| International Developed Equity |
Investment in this sub-asset class includes investing in non-U.S.
based companies that are domiciled in countries considered to be
developed as opposed to developing based on per capita income levels.
This sub-asset class provides long-term capital appreciation in
excess of inflation. International equity may be diversified across
portfolios of varying size, investment style, and exposure to opportunities
in a variety of developed countries. The international developed
equity portfolios provide an element of diversification relative
to the domestic equity portfolios. Non-dollar currency exposure
is another aspect of investing in this area that will impact performance
and volatility of the asset class over the short-term, however,
over the long-term, we would expect no additional return from the
currency exposure. |
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J-L |
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| Leverage |
The practice of borrowing funds in order to purchase
additional investments/assets. |
| Long a Stock |
A term used to refer to owning a stock. |
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M-O |
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| Market Capitalization |
This is a measure of the size of a corporation. It
is simply the price of a company’s stock multiplied by the
number of shares outstanding of that particular stock. |
| Market Neutral |
Market neutral represents a MOSERS sub-class within our public debt. It is expected that this subclass will have little or no
correlation either stocks or bonds as defined by the Russell 3000
and the Lehman Brothers Aggregate. It is further expected that
this portfolio will exhibit similar volatility to the Lehman Brothers
Aggregate. This subclass utilizes marketable alternative managers
who are both long and short various positions within the market.
These managers may utilize leverage as allowed within their governing
documents. These managers seek to control risks and maintain a
focus on absolute returns. The inherent nature of these strategies
should result in reasonably consistent returns in excess of the
risk free by some 3-5%.
Long/Short Equity: This strategy consists of
a core portfolio of long equities hedged at all times with short
sales of stocks and/or stock index options.
Convertible Arbitrage: This strategy involves
purchasing a portfolio of securities, generally convertible bonds,
and hedging a portion of the equity risk by selling short the
underlying common stock.
Event Driven: This strategy involves investing
in opportunities created by significant transactional events,
such as spin-offs, mergers, acquisitions, bankruptcy reorganizations,
recapitalizations and share buybacks.
Relative Value: This strategy attempts to take
advantage of relative pricing discrepancies between instruments
including equities, debt, options and futures. Managers may use
fundamental, technical or mathematical analysis to determine valuation
anomalies.
Global Fixed Income/Currencies: This strategy
usually involves the buying and selling of foreign exchange forwards
and related options in order to express views on the attractiveness
of currencies relative to one another based on economic analysis.
This strategy is typically limited to the most liquid (G-10) currencies,
although small currencies may be traded as well.
Managed Futures: Managed futures strategies
use derivative instruments (i.e. futures, forwards and options)
extensively within the portfolio. Managed futures managers typically
focus on taking positive or negative directional bets upon strong
trend formations on a leveraged basis through liquid derivatives.
Commodities: This strategy includes investing
in commodities and commodity-related equities based on fundamental
analysis. Factors analyzed include the general state of the economy,
economic growth prospects, supply and demand dynamics, etc.
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| Mean |
The mean return for an asset class is the average return for the
group of observations. |
| Median |
This is the middle return in a universe of returns. It is NOT
the average return. |
| Nominal Return |
This is the total return of an investment before taking into account
the impact of inflation. |
| Option Contract |
The right, but not the obligation, to buy (for a call option)
or sell (for a put option) a specific amount of a given stock, commodity,
currency, index, or debt, at a specified price (the strike price)
during a specified period of time. Also, sometimes called “Option.” |
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P-R |
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| Passive Management |
An approach to money management where a manager seeks
to replicate the performance of a predefined benchmark. Typically,
lower management fees are associated with passive management relative
to active management as there is no expectation for alpha in passive
strategies. |
| Price/Earnings Ratio (P/E) |
This is the most common measure of how expensive a stock or equity
market is. The P/E ratio on a per share basis is equal to a stock's
price divided by its per share after-tax earnings over a 12-month
period, usually the trailing period but occasionally the current
or forward period. The higher the P/E ratio, the more the investor
must pay for each dollar of annual earnings. |
| Private Debt |
This sub-asset class consists of debt investments in companies
with low credit quality. Returns from this asset class are achieved
through a value-added process that follows the purchase of debt
at very significant discounts to par value of companies which are
financially distressed, or are likely candidates for or are already
in bankruptcy. Major restructuring of these companies is required
either through voluntary negotiations or by the forced means of
a bankruptcy process. In either case, significant value enhancement
can come from such things as management/ownership change, renegotiation
of contracts and labor agreements, opportunistic liquidations, establishment
of a healthier balance sheet by means of debt reduction, and operational
turnaround. Due to the legal superiority of debt claims relative
to equity claims within financial restructurings, the private debt
investor is well situated to realize the benefits of this value
enhancement process, either through appreciation of the original
bond investment (substantial or complete payment of the claim in
bankruptcy) or through conversion to equity in the financially and
operationally restructured company.
The performance of the private debt allocation is somewhat cyclical,
although there are some mitigating factors such as supply/demand
dynamics strongly in favor of the investor and substantial current
yield in the portfolio that suggest the possibility of modest
performance even in more difficult economic periods. Most private
debt investments are substantially illiquid and long-term in nature,
comprised of both U.S. and International debt issuers, and both
publicly placed and privately placed (corporate or bank) debt.
Also sometimes called “Distressed Debt.”
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| Private Equity |
This investment consists of equity of privately held-companies. The role of private equity is to provide high real returns over long periods of time. The private equity allocation will be comprised of opportunities both within the U.S. and internationally. Specific types of strategies will include venture capital, buyout, and opportunistic/special situations investing. |
| Public Equity |
This is an asset class consisting of publicly owned stock or other securities representing an ownership interest. This asset class includes domestic (including hedged equity), international developed, and emerging market equity. |
| Public Debt |
This is an asset class consisting of various types of debt instruments
including those issued by the U.S. Treasury, its agencies and corporations.
Also included are securitized mortgages, asset backed securities
and dollar denominated debt issued by foreign nations. |
| Real Estate Investment Trust (REIT) |
A form of corporate organizational structure specifically allowed
for companies whose assets are made up primarily of real estate.
REITs are required to pay out 90% of their net income out to investors
in the form of a dividend. Real estate primarily serves as a hedge
against unanticipated general price inflation, and may also provide
a significant amount of income due to the nature of real estate
in providing revenues from rental properties. |
| Real Return |
The return of a portfolio or investment after accounting for the
effects of inflation. |
| Required Rate of Return |
This is the real rate of return that the portfolio must generate
in order to fund the liabilities per the actuarial assumptions being
made. In MOSERS case we must earn 5% after inflation in order to
fund our liabilities with no increase in the contribution rate. |
| Risk-Free Rate |
This is the return one would expect to earn on a “risk-free”
investment To an individual, the risk-free rate is normally defined
by the return on a 3-month U.S. Treasury Bill, however, to pension
plan like MOSERS, its risk free rate could be considered to be the
asset that most highly correlates with our liabilities. Many academics
have argued that this asset may very well be a treasury inflation
protected security of very long maturity. |
| Risk-Adjusted Return |
This is a return measure utilized to compare the return of two
portfolios with different levels of risk. By “equalizing”
the risk of both investments, you can compare the returns for an
“apples-to-apples” comparison. The Sharpe Ratio is a
common measure for obtaining risk-adjusted return comparisons. |
| Risk Premium |
In the aggregate, investors who take risk expect to be compensated
for that risk with higher returns. The expected risk premium on
an asset is the amount to which the asset is expected to outperform
to compensate for the additional risk.
As an example - one should expect bonds to outperform cash because
they subject the investor to inflation risk and in some cases
credit risk and prepayment risk that an investor in a short-term
treasury bill does not incur. If cash paid a higher return than
bonds over long periods of time and cash had less risk than bonds,
no one would invest in bonds because they would not be being compensated
for the risks they were bearing. Thus, over very long periods
of time one would expect stocks to earn a risk premium over bonds
and bonds to earn a risk premium over cash.
Think of a risk premium as a form of hazard pay for your investments.
Just as employees who work relatively dangerous jobs receive hazard
pay as compensation for the risks they undertake, risky investments
must provide an investor with the potential for larger returns
to warrant the risks of the investment.
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S-U |
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| Sharpe Ratio |
This ratio is often used to measure the risk-adjusted
return of a portfolio. It is the calculated by taking a portfolio’s
return above the risk-free rate (often defined as 3-month Treasury
Bills) and dividing it by the risk level (standard deviation) of
the portfolio. This measures how much return a portfolio or manager
is receiving for each unit of risk they take. |
| Shorting a Stock |
The process of selling a stock that is not owned by the investor.
If an investor has a negative view of a stock and believes its price
will fall, shorting becomes an attractive action. Essentially, the
investor will borrow the stock from someone who owns it (paying
them a fee to borrow it), and then they will sell the stock. If
the stock falls, there is a profit as the investor sold it at a
higher price and is now able to buy it back cheaper and return it
to the entity from whom they borrowed it. In contrast, if the stock
goes up, the investor shorting the stock loses money because they
sold it at a lower price and now have to buy it back at a higher
price. |
| Spreads |
The difference between two prices. |
| Standard Deviation |
A statistical measure used to determine the risk, or volatility,
of a portfolio. It reflects the average deviation of the sample
observations from the mean (average) of the observations. Since
it measures the width of the range of return outcomes, the larger
the standard deviation, the greater the risk (volatility) of the
portfolio. For example, if the mean return of an asset class is
5% and the standard deviation is 10, you can expect the range of
outcomes to be between +15% and -5% about 68% of the time assuming
the returns are normally (i.e. equally) distributed around the mean.
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| Swap |
A swap is an agreement entered into by two parties where each
agree to pay a particular stream of payments according to specified
terms. Typically one is paying a fixed rate, while the counterparty
is paying a floating rate that varies with the performance of a
particular investment benchmark.
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| Timber |
Timber (sometimes called Timberland) is an investment in which
a large portion of the expected return comes from the biological
growth of the trees over time. In this portfolio, large diversified
groups of properties, trees and land, are acquired, managed, and
disposed of by professional timber management organizations. A long-term
philosophy must be in place when an investment in timber is made.
Depending on the type of timber, and therefore its end use, the
trees may be allowed to grow for ten to twenty-five years. Throughout
the growth stage of the investment, proper maintenance of the timberland
is performed to insure optimum results. Income is generated when
the trees are harvested. Due to the long growth phase of the trees,
an investment in timber reduces the overall volatility of a portfolio
of traditional assets. When analyzing historical timberland returns,
it is clear that timberland performance has very little correlation
to stocks and bonds.
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| Tracking Error |
This is a measure used to determine the amount by which the performance
of a portfolio differs from that of a given benchmark. Technically,
it is the annual standard deviation of the difference between the
portfolio and the benchmark. It is a good measure to determine how
consistently a manager achieves a return close to a pre-defined
benchmark. |
| Treasury Inflation Protected Securities (TIPS)
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These securities are backed by the full faith and credit of the
United States and are quite liquid. TIPS is a sub-asset class intended
to generate a real return as inflation protection is a vital part
of the instrument. Unlike nominal bonds, which will be hurt by increases
in interest rates and inflation, TIPS will not. TIPS also provide
a source of current income and reduce the overall volatility of
the portfolio. In addition, this asset is viewed as the best hedge
against our liabilities due to similarities in duration and inflation
sensitivity, thus it is viewed as our risk-free asset in relation
to the liabilities. |
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V-Z |
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| Value At Risk (VAR) |
A statistical technique used to determine the amount
that can be expected to be lost from a portfolio of investments
over a specified time frame. |
| Yield Curve |
The relationship between time to maturity and the yield for fixed
income in a given risk class. |
| Yield to Maturity |
This is the current yield on a bond plus or minus the price appreciation/depreciation
during the life of the investment. Essentially, it is the yield
that would be realized on a fixed income security if it were held
until the maturity date. |
Yield Spreads |
The differences in yields on different types of fixed income securities
which is a function of supply and demand, credit rating, and anticipated
interest rate changes. Generally, the greater the “spread”
of a bond compared to a U.S. treasury bond, the greater the risk of
that particular bond investment. |
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