D Is for Dosh

Or how we get to diversification from day-trading - via debt!

For this fourth instalment of the A to Z of Money Terms and Financial Jargon for The Money Awareness and Inclusion Awards we're keeping with the article format from last week - but also featuring some ideas from contributors.

We're including Karen Holland 's award-winning project, the DIMS score (see below).

We were also a bit inspired by "the explainer" sections in MoneyFitt 's excellent morning emails for day-trading and deflation/disinflation. Thanks Ka-ming Lim .

As before, the aim is to keep the opening for each definition as simple as possible, to explain the term in the most easily understood words, before adding a little more detail, context, plus an example that hopefully illustrates the idea.

When unsure, I've tried to err on the side of being too simple rather than too complicated, although hopefully without losing any important accuracy.

That doesn't mean we won't welcome comments or suggestions. We do, and will. Hit us up with more ideas for D (or A, B, C or E while you're at it!)

Day-trading

Day-trading is when people buy and sell stocks, options, or other securities during the same day, using short-term strategies

An example? If a day-trader sees that a stock is increasing in price, they may decide to buy the stock quickly and then sell it later in the day if the price goes up even further.

More details: Day-traders use strategies such as technical analysis, often driven by software and apps, to quickly analyze the stock market and make decisions about when to buy and sell.

Last note: A key danger of day-trading is that the gains made can seem small, encouraging traders to take on debt, or margin, to increase returns - but this also increases the risk of sizable losses, including ruin risk.

Does It Make Sense (DIMS Score?)

DIMS Score? (Does It Make Sense? Score) was developed by GiftingSense.org to help a young person understand if a potential purchase makes sense for them and their family before any money is spent.

An example? A DIMS score between 1 and 10 would show if a purchase is a good idea or not.

More details: DIMS scores are calculated by answering very straightforward questions on a free and safe digital worksheet.

Last note: DIMS scores underpin the belief that thinking before buying is the most natural way to make financial information relevant to school-aged-children during the time in their life when their money personalities are still in development.

Debt

Debt is money that owed to someone else, often requiring the payment of interest to compensate the lender. It can be used to purchase things we don't have enough money for, like a house.

An example? If you take out a loan to buy a car for $20,000, you must pay back the loan plus interest over a set period of time.

More details: The higher the interest rate, and the longer the time you take to repay, the more you have to repay in total, as debt compounds over time.

Last note? If you take on too much debt, it can become difficult to manage and may have long-term consequences. Debt often has a "senior claim". This means that if you don't repay, the lender can seize your assets, the house or car you purchased with the debt.

Debit card

A debit card is a card that allows you to buy things with money from your bank account instead of cash: the amount of money you spend is taken directly from your bank account.

An example? If you have $100 in your bank account and you buy something for $50 using your debit card, you will only be able to spend the remaining $50 until you deposit more money into your account.

More details: While they physically look like credit cards, and have a few similar attributes, debit cards do not allow us to borrow at very high interest rates from the issuer.

Last note: A debit card can help you stay on top of your finances because it only allows you to spend the money you have in your account.

Deflation

Deflation is a decrease in the overall price of goods and services.

An example? If the cost of a gallon of milk goes from $3.50 to $3.00 - that's deflationary - a fall in actual prices.

More details: Deflation is caused by a decrease in the supply of money or a decrease in the demand for goods and services, which makes the prices of those goods and services go down.

Last note: While deflation could sound good, it can lead to a negative spiral if expectations of prices become deflationary, as buyers will wait for prices to become cheaper and cheaper.

Disinflation

Disinflation is a decrease in the rate of inflation: prices rise, but slower than before.

An example? If prices rose by 10% in one year and then only rose by 5% in the following year, there has been a decrease in the rate of inflation, disinflation

More details: Disinflation helps to control rising prices and can help increase the purchasing power of a currency.

Last note: Disinflation is generally seen as a good thing, especially if inflation is above the target rate.

Depreciation (assets)

Depreciation is when something decreases in value over time (ie, the opposite of appreciation, or increasing in value)

An example? A car that is bought for $30,000 will decrease in value each year until it is no longer usable

More details: Depreciation is used in accounting to spread the cost of an asset over a period of time, usually the asset’s useful life, to more accurately reflect the value the asset contributed to a business over that period of time

Last note: "Straight line depreciation" is the easiest to understand, that an asset worth $30,000 with a useful life of 10 years, would depreciate $3,000 per year - although this may not reflect reality precisely.

Depreciation (currency)

When the value of a currency decreases over time, this is often referred to as depreciation

An example? If one Euro cost $1.10 in January and $1.20 in February, the U.S. dollar has depreciated against the Euro by 10%

More details: This happens when the currency loses purchasing power compared to other currencies, which can happen for a wide range of reasons

Last note: If a country deliberately depreciates its currency (perhaps to make its exports cheaper for other countries to buy, for example).

Discount rate

A discount rate is a way to compare the value of money now to the value of money in the future, adjusting for factors such as inflation and risk.

An example? If you are offered $100 today or $110 in a year, the discount rate helps you decide which offer is better. If the discount rate is less than 10%, you should wait a year. If the discount rate is more than 10%, you should take the money now.

More detail: Discount rates are used to determine the present value of future cash flows. In theory, the value of an asset should be equal to the discounted value of all cash flows it will generate in the future (hence discounted cash flow analysis).

Last note: In practice, discounted cash flow valuations tend to be very volatile to small changes. However, understanding how discount rates incorporate inflation and risk can be useful in assessing alternative investment opportunities.

De-Fi

De-fi stands for decentralized finance. It is a way of using blockchain technology and cryptocurrency to do financial activities such as borrowing, lending, and trading, without the need for a centralised banking system.

An example? You could borrow money from a peer-to-peer lending platform that used blockchain technology, and you might potentially be able to get the money faster while paying lower fees.

More details: An advantage of de-fi is it recognises that third-party banks are extracting fees for their intermediary role, between people lending them money (deposits) and others wanting to borrow.

Last note: De-fi uses blockchain technology to replace both the intermediary and regulated representative role of banks. The lack of regulation is seen by some as another advantage, but by others as a disadvantage that enables the spread of unsafe practices.

Diversification

Diversification is a way of spreading out investments so that you "don't put all your eggs in one basket".

An example? Let's say you have $100 to invest. You can put it all in one stock, but if that stock goes down 50%, you lose half your money. Instead, you could put $20 in five different stocks. That way, if only that one stock goes down, you lose 10%.

More details: Diversification is sometimes called "the only free lunch in town" when it comes to investments. It allows you to lower your risk without reducing your potential for return.

Last note: it can seem counter-intuitive, but taking more risk can lead to safer and higher returns, particularly if they are different un-correlated risks, meaning the asset values tend not to move in the same direction at the same time (ie, stock prices and gold).