IFoA CB1 key terms

An institution such as a bank, insurer or fund that channels funds between savers and borrowers, transforming maturity, scale and risk so that both sides obtain terms they could not arrange directly.

The process by which intermediaries hold illiquid assets while issuing liquid liabilities, allowing depositors to withdraw on demand even though the underlying loans cannot be quickly sold without loss.

A situation in which many depositors simultaneously seek to withdraw funds because they fear the institution may fail, potentially causing the failure that was feared even if the bank was solvent.

A scheme, often government-backed, that reimburses depositors up to a stated limit if their bank fails, reducing incentives for panic withdrawals and thereby stabilising the banking system.

The tendency for a party protected against loss, such as an insured depositor or a bailed-out institution, to take greater risks because the consequences of failure fall on someone else.

A market failure where asymmetric information before a contract means the party with better knowledge, such as a high-risk borrower, is most likely to seek cover or credit at standard terms.

Any situation where one party to a transaction knows materially more than the other about the asset, borrower or risk involved, causing prices to be inefficient and trade to shrink.

A firm that continuously quotes both buy and sell prices for a security, earning the bid-offer spread while providing immediacy and liquidity to other participants who wish to trade.

The difference between the highest price a buyer will pay and the lowest price a seller will accept, representing an implicit trading cost and a gauge of market liquidity.

The danger that the failure or distress of one institution or market spreads through interconnections and common exposures, threatening the functioning of the financial system as a whole.

The amount that a future cash flow is worth today once discounted at an appropriate rate, allowing cash flows arising at different dates to be compared on a common basis.

The rate used to convert future cash flows into present values, reflecting the time value of money and the risk of the cash flows being valued.

The single discount rate that equates a bond's current market price with the present value of all its promised coupons and redemption proceeds, assuming the bond is held to maturity.

A weighted average time until a bond's cash flows are received, used as a measure of how sensitive the bond's price is to small changes in interest rates.

A contract whose value depends on an underlying asset, rate or index, such as a future, option or swap, typically used to hedge exposures or to take leveraged positions.

A contract giving the holder the right, but not the obligation, to buy or sell an underlying asset at a specified price on or before a stated date, in return for a premium.

Taking an offsetting position in a related instrument or market in order to reduce an existing exposure to price, rate or currency movements.

The sum of the present values of a project's expected cash inflows less its outflows, including the initial investment; a positive figure indicates value creation for shareholders.

The discount rate at which a project's net present value equals zero, often compared with a hurdle rate to decide whether an investment should proceed.

The minimum return a company must earn on its investments to satisfy lenders and shareholders, reflecting the riskiness of the business and its mix of debt and equity.

A firm's overall required return, calculated by weighting the after-tax cost of debt and the cost of equity by their proportions in the target capital structure.

The mix of debt and equity finance a company uses to fund its assets and operations, which affects its required return, financial risk and flexibility.

The use of borrowed funds to increase the scale of an investment relative to the owner's equity, magnifying both potential returns and the risk of loss to shareholders.

The expected reduction in firm value arising from the possibility of default, including legal fees, lost customers, departing staff and forced asset sales.

A model stating that the expected return on an asset equals the risk-free rate plus a premium for systematic risk, measured by the asset's beta relative to the market.

A measure of how much a security's returns tend to move with the overall market; values above one indicate greater-than-market sensitivity and higher required returns.

Risk that affects the whole market, such as changes in interest rates or economic growth, and which cannot be removed by holding a diversified portfolio.

Spreading investments across assets whose returns do not move perfectly together, so that firm-specific risks offset and total portfolio variability falls without reducing expected return.

Cash generated by operations after necessary reinvestment, available to pay lenders and shareholders; it is the basis for most discounted cash flow valuations of a business.

Net profit divided by shareholders' equity, showing the profit generated for each unit of owners' capital; it can be decomposed into margin, asset turnover and leverage effects.

A conflict of interest arising when managers or agents pursue their own objectives rather than those of the principals who own the business or rely on the agent.

An arrangement in which one party, the principal, delegates work or decision-making authority to another, the agent, whose interests and information may differ from the principal's.

The system of rules, board structures, incentives and disclosures through which companies are directed and controlled, aiming to align managers with shareholders and other stakeholders.

A legal obligation on a person entrusted with others' interests, such as a director or trustee, to act loyally, in good faith and with appropriate care and skill.

An estimate of the maximum loss a portfolio could suffer over a stated horizon at a given confidence level, widely used for risk reporting but silent about losses beyond that threshold.

The average loss expected in the worst cases beyond the value-at-risk threshold, giving a fuller picture of tail risk than a single quantile measure.

The exposure of an institution's earnings or asset values to changes in market interest rates, driven largely by mismatches in the repricing dates of assets and liabilities.

The danger that a firm cannot meet cash obligations as they fall due, or can only sell assets quickly at prices well below their fair value.

A cognitive bias in which an initial figure or reference point, even an irrelevant one, disproportionately influences subsequent estimates and judgements.

A behavioural model in which people evaluate outcomes as gains or losses relative to a reference point, are loss averse, and weigh probabilities in a distorted, non-linear way.

The tendency to overestimate one's own knowledge, forecasting accuracy or control over events, leading to excessive trading, inadequate diversification and underestimated risk.

A framework assessing industry attractiveness through the threat of new entrants, supplier power, buyer power, substitute products and rivalry among existing competitors.

A structured review of a business's internal strengths and weaknesses alongside external opportunities and threats, used to inform strategy and prioritise actions.

A durable attribute such as cost leadership, brand strength or proprietary technology that lets a firm earn higher returns than rivals in its market.