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Investing Glossary Terms

Acquired Funds are investment funds such as open-end mutual funds and privately offered investment funds commonly known as hedge funds that buy assets and charge to investors certain costs, fees, and expenses, typically in proportion to each investor’s investment in such acquired funds.

Alpha represents the amount of a stock’s return that, on average, is independent of the market’s return. Alpha can also refer to returns in an actively managed portfolio that exceed market returns as measured by a relevant index or set of indices.

Absorption, in realty, is the rate at which rentable space is filled. Gross absorption measures square feet leased over a period. Net absorption is gross absorption minus the amount of space vacated during the same time period.

Beta is an asset's sensitivity to market moves. Roughly speaking, if the market gains 10%, an asset with a beta of 1.0 will, on average, gain 10%. However, such market-related gain may be only part of the asset's total price change; e.g., a positive alpha (see above) would result in a total price change greater than 10%.

Cap Rate (short for capitalization rate) is the most common method of calculating relative value in realty. Cap rate is the ratio of a property's annual net operating income to its fair market value. It is a way of measuring return on investment and is often compared to a stock's price-to-earnings ratio (PE) or, to be more precise, the inverse of a PE ratio.

Capital Calls, in private equity, are requests for capital made by a general partner (GP) or fund-of-funds manager. Typically, limited partners (LPs) agree to a maximum investment (commitment) and the GP makes capital calls over time to the LPs to make investments and pay expenses. Similarly, a fund-of-funds manager makes capital calls to investors as calls come in from underlying GPs. The portion of an LP's commitment that has not yet been called is termed the unfunded portion.

Carry, Carried Interest, Hurdle Rate, and High Water Mark These terms are most commonly heard in discussions of fees paid to managers of private investment partnerships, including hedge funds. Typically, such partnerships provide a two-part fee for their managing partners: (1) an annual fee based strictly on invested assets and (2) an incentive fee based on absolute performance. The latter fee is often referred to as the managing partner's or general partner's "carry" or "carried interest." Some partnership agreements prohibit the payment of such a bonus unless performance exceeds a specified floor, also known as a "hurdle rate" (e.g., 8% net of inflation). Perpetual life partnerships that compute and pay incentive fees on a periodic basis typically specify that the managing partner shall receive a bonus only if the partnership's net assets are above their previous "high water mark," i.e., such assets' aggregate market value exceeds any earlier observations. "High water marks" prevent a manager from pocketing a bonus for good performance in a given year without first recovering any earlier absolute losses. Typical carried interest is 20% (although can be as high as 30%), and the remaining 80% goes to limited partners.

Cash Flow is a measure of the actual cash generated by a company or a property. Cash flow is equal to net income plus non-cash items such as depreciation, amortization, and deferred taxes.

Clawback and Aggregation. In private equity, "aggregation" refers to a netting of a private partnership's gains and losses for the purpose of determining the dollars paid to the general partner in the form of its carried interest over the partnership's life. This protects limited partners from situations in which a general partner takes its share of gains from early winners within a portfolio, then collects its annual management fee while later deals go sour. Under clawback arrangements, a portion of the GP's after-tax carried interest is escrowed during the life of the fund.

Commingled Investment Vehicles are funds of pooled capital in which multiple investors own an interest, such as shares, units, or a limited partnership interest. The CIV then buys assets, and investors participate in the performance of those assets and in the costs, fees, and expenses of the CIV, typically proportionally with other investors. Publicly offered CIVs, which are registered for regulatory purposes, may include mutual funds and exchange-traded funds (ETFs). Private CIVs, which may also be registered, may include pools commonly known as hedge funds (although CIVs can be hedged or unhedged).

Deal Flow is the amount of potential investments offered to a private equity fund manager.

Derivatives are instruments, such as options and futures, whose price is derived from fluctuations in underlying assets. Typically, derivatives take the form of contracts between two parties. Futures contracts obligate a buyer to purchase an asset at a future date and price. Options contracts give a buyer the right to buy or sell an asset at an agreed price over a specified period or on a specified date. Swaps involve the exchange of an asset or security for another when the parties perceive mutual advantage. Swaps may involve, for example, currencies, debt instruments, or exchanges of debt for equity.

Distressed Debt refers to a company's debt securities (e.g., bank loans, bonds, or other debt instruments) that are trading at a meaningful discount to par value due to various reasons typically associated with a company's poor financial or operating performance, credit downgrade, or overly leveraged balance sheet. Some investment firms buy distressed debt at a discount to par value with the intention of leading or influencing a restructuring of the company's business or balance sheet, and then sell the debt at a profit once the company has recovered.

Distribution is the transfer of cash or securities to a private investments limited partner after a portfolio company has generated a cash dividend, is sold to new owners, or undertakes an initial public offering of its stock (see IPO).

Downside Deviation is a measure of the volatility of negative returns.

Duration is a measure of the sensitivity of the price of a debt security or portfolio of debt securities to a change in interest rates. The higher the duration, the more sensitive a debt security is to interest rate changes.

ETFs, or exchange-traded funds, are generally funds that are constructed like mutual funds but are traded throughout the trading day on an exchange at a market price and often track market indices.

Exit refers to the point at which an investment manager pursuing a private equity strategy ceases to own one of its portfolio companies or properties. In successful investments, exits result in a realization of profit. This can result from a merger, an acquisition, an initial public offering (IPO), or a recapitalization, in which a company re-leverages and pays dividends to shareholders. In unsuccessful investments, exits may occur as a result of bankruptcy, fraud, or other calamitous events that mark the demise of a business.

Fair Value is an accounting term that reflects how much an asset would be sold for in an orderly transaction as of the date of the financial statement under current market conditions. A Financial Accounting Standards Board (FASB) rule aimed at standardizing the definition of fair value under generally accepted accounting principles (GAAP) became effective for financial statements issued for fiscal years beginning after November 15, 2007.

GP (general partner) is the manager of a private investment fund that has been organized as a limited partnership. In such a structure, the general partner controls the partnership and has liability for all of the partnership's obligations. LPs (limited partners), or the investors in the fund, do not play a role in its day-to-day operations and their liability is generally limited to the total capital they commit to the fund. Because so many funds are organized as limited partnerships, the terms GP and LP are sometimes generically used to refer to the manager and investors in a private fund.

Hedge Fund Although the term means different things to different people, hedge funds are widely viewed as pooled investment vehicles sharing these four attributes: (1) an investment philosophy that emphasizes the generation of satisfactory absolute (as distinct from relative) returns, (2) the flexibility to both buy seemingly undervalued securities and sell short seemingly overvalued ones, (3) a fee structure comprising a base annual fee plus a percentage of the fund's absolute gains, and (4) asset management by individuals who have invested a significant fraction of their own net worth in the fund.

IRR (internal rate of return) is an annualized, dollar-weighted measure of an investment’s return. IRR is a common method of measuring the performance of private investments. Specifically, it is the discount rate at which the net present value of an investment is zero. Said differently, it is the rate at which an investment's future cash flows, discounted back to today, equal its price. Although IRR is commonly used for measuring investment performance, it is an imperfect metric that favors timing of cash flow over quantity of cash flow. For example, an investment that returns 1.5x its cost in six months will have a higher IRR than an investment that returns 4x its cost in two years. An alternative form of measuring investment performance is total value to paid-in multiple (TVPI). It should also be noted that IRRs include realized and unrealized investments; the values of unrealized investments may differ from actual returns once the investment is realized.

J-Curve refers to the shape of the trend line in cash flow or returns over time from a typical private equity fund. At first, returns are negative because of up-front fees and expenses that exceed the minimal valuation adjustments initially experienced by investments. Later, as the investment produces results, cash flow or returns rise, thereby increasing a fund’s valuation, with the expectation that the fund's end-of-life return will be well above breakeven.

Lockups usually restrict the timing, amount, and frequency of redemptions from privately offered funds. Investments in such funds are generally deemed illiquid. Capital not subject to lockups is generally readily reducible to cash in order to meet redemptions, rebalancing needs, or new manager fundings, although capital not subject to lockups may also be deemed illiquid.

Liquidity refers to the ease with which an asset can be converted to cash. For the purposes of restrictions on illiquid holdings in TIFF Multi-Asset Fund, for example, an investment is considered to be illiquid if it cannot be redeemed or otherwise disposed of in the ordinary course of business within seven days at approximately the price at which it is being carried on the fund's books.

LP (limited partner), see GP (general partner)

Net Asset Value (NAV) is the fair market value of an investment at any given point in time. NAVs are typically established by a private investment fund's general partner based on extensive work with the fund's portfolio management teams and in conjunction with accounting rules and guidelines. At least once a year, auditors review the net asset values of a fund's portfolio companies in preparing a fund's audited financial statements. For a mutual fund, NAV is the price per share at the close of each trading day and is calculated by dividing the total value of all the fund's securities (less fund liabilities) by the number of outstanding fund shares.

Net Operating Income (NOI) in realty is a measure of the net cash generated by a property before any interest charges or taxes are deducted. It is a property's gross rental income plus any other income such as late fees, less vacancies and rental expenses.

Nominal Treasury Bonds are conventional bonds issued by the US Treasury that deliver interest payments (yield) with no adjustment of principal for inflation. Also see Treasury Inflation Protected Securities (TIPS).

Opportunistic refers to an investment strategy that seeks to produce the greatest possible returns from all available opportunities for investment at any given time irrespective of any self-imposed limitations, exclusions, or concerns about pursuing a conventional or balanced approach. Opportunistic investing represents a truly independent approach to directing capital to the highest potential, risk-adjusted returns available at the time of the investment decision. The strategy can be triggered by events or situations that create short-term opportunities to capitalize on price fluctuations or imbalances.

Private Investment is generally used to refer to an investment in a privately traded company or security. Private investment funds generally pursue such strategies as venture capital; buyouts; private realty; private resources; subordinated debt; restructuring and distressed debt and securities; special situations; and recapitalizations. Private investing generally connotes a form of investing in which return of capital and realized gains are uncertain and are generally not expected for at least several years after a fund's inception. By their nature, private investments are generally illiquid, and the proceeds from such investments are subject to a realization event (e.g., a private sale or a public offering).

Real Yield is the yield on a security in excess of inflation. In some cases, it may refer to the stated yield on an inflation-linked bond.

Relative Value consists of long and short investments in very similar securities. The goal of this strategy is to generate returns from idiosyncratic security selection and to limit overall market exposure. Example investment types include equity relative value (matched longs and shorts from the same industry), merger arbitrage (trading of the target and acquirer stock prior to the closing of a merger), capital structure arbitrage (trading of securities of the same issuer), convertible bond arbitrage (often long a convertible, short the equity) and yield curve arbitrage (trading of bonds with different maturities).

Repurchase Agreements (Repo) are sales of securities together with an agreement by the seller to buy them back at a later date at a specified price.

Secondary Market, for private investments, refers to the market in which a limited partner can seek permission from a fund's general partner to sell its interest in a partnership (a secondary interest). This may be done for a variety of reasons, including to raise cash, streamline a portfolio, or because the LP can no longer meet its capital call obligations. A secondary interest in a private fund may be referred to as a "secondary."

Separate Account Managers offer segregated accounts in which assets owned directly by an investor are managed according to customized guidelines.

Sharpe Ratio is a measurement of risk-adjusted performance. It is calculated by subtracting a "risk-free" rate – in many cases a 0- to 3-month Treasury bill index – from the portfolio return and dividing the result by the portfolio's standard deviation.

Sortino Ratio is a measurement of risk-adjusted performance that focuses on downward price volatility. It is calculated like the Sharpe ratio but takes only downside deviation into account.

Standard Deviation in investing is a measure of a portfolio's volatility. It reveals the dispersion of all return data from the mean, or average. The evolving mean is the average of all data points.

Total Value to Paid-In Multiple (TVPI) is the ratio of an investment's current fair market value plus any previously distributed capital to its cost at the time of acquisition. This is a simple but meaningful measurement of how many times an invested dollar has been multiplied by a given investment. A 2x TVPI indicates that an investor has received $2 of realized and/or unrealized value for each $1 of invested cost.

Treasury Inflation Protected Securities (TIPS) are US Treasury bonds whose principal is adjusted for inflation. Also see nominal Treasury bonds.

Value Stocks tend to trade at lower prices relative to their fundamentals (i.e., dividends, earnings, sales, etc.) and are thus considered undervalued by investors. Common characteristics of such stocks include a high dividend yield, low price-to-book ratio or low price-to-earnings ratio.

Vintage Year is the calendar year in which a private investment fund begins making investments.

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