Finance Cheat Sheet

The core ideas of Finance distilled into a single, scannable reference — perfect for review or quick lookup.

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Quick Reference

Time Value of Money

The principle that money available today is worth more than the same amount in the future because of its potential to earn returns. This concept underpins virtually all of finance, from loan amortization to corporate investment analysis.

Compound Interest

Interest calculated on both the initial principal and the accumulated interest from previous periods. Compounding causes wealth to grow exponentially rather than linearly over time, which is why it is often called the most powerful force in finance.

Risk and Return Tradeoff

The fundamental principle that potential return rises with an increase in risk. Investors must be compensated for bearing additional uncertainty, which is why historically stocks have returned more than bonds, and bonds more than savings accounts.

Diversification

The strategy of spreading investments across different asset classes, industries, or geographies to reduce the impact of any single investment's poor performance on the overall portfolio. Diversification reduces unsystematic risk without necessarily lowering expected returns.

Stocks (Equities)

Ownership shares in a corporation that represent a claim on part of the company's assets and earnings. Stockholders may receive dividends and benefit from capital appreciation, but they also bear the risk of price declines and are last in line during bankruptcy.

Bonds (Fixed Income)

Debt instruments issued by governments or corporations to raise capital. The issuer promises to pay periodic interest (coupon payments) and return the principal (face value) at maturity. Bonds are generally less risky than stocks but offer lower expected returns.

Net Present Value (NPV)

The difference between the present value of future cash inflows and the present value of cash outflows over a period of time. NPV is the gold standard for evaluating investment projects in corporate finance; a positive NPV indicates that a project is expected to add value.

Financial Statements

Formal records of a business's financial activities. The three core statements are the income statement (revenue and expenses over a period), the balance sheet (assets, liabilities, and equity at a point in time), and the cash flow statement (sources and uses of cash).

Capital Structure

The mix of debt and equity financing a company uses to fund its operations and growth. The optimal capital structure minimizes the weighted average cost of capital (WACC) and maximizes firm value. Debt is cheaper due to tax deductibility of interest but increases financial risk.

Market Efficiency

The Efficient Market Hypothesis (EMH) states that asset prices fully reflect all available information, making it impossible to consistently earn abnormal returns. The weak form covers past price data, the semi-strong form includes all public information, and the strong form encompasses even private insider information.

Key Terms at a Glance

Amortization:The gradual repayment of a debt through scheduled installments that include both principal and interest, or the systematic write-off of an intangible asset's cost over its useful life.

Annuity:A series of equal payments made at regular intervals over a specified period, such as monthly mortgage payments or annual pension distributions.

Asset Allocation:The strategy of dividing an investment portfolio among different asset categories such as stocks, bonds, and cash to balance risk and reward according to an investor's goals and risk tolerance.

Beta:A measure of a security's systematic risk relative to the overall market. A beta greater than 1 indicates higher volatility than the market, while a beta less than 1 indicates lower volatility.

Bond:A fixed-income debt instrument in which an investor loans money to a borrower (typically a corporation or government) in exchange for periodic interest payments and the return of principal at maturity.

Capital Gains:The profit realized when a capital asset such as a stock, bond, or real estate property is sold for a price higher than its original purchase price.

Capital Structure:The specific combination of debt and equity a company uses to finance its overall operations and growth, influencing both risk and the weighted average cost of capital.

Compound Interest:Interest calculated on both the initial principal and the accumulated interest from prior periods, causing an investment to grow at an accelerating rate over time.

Derivative:A financial contract whose value is derived from the performance of an underlying asset, index, or rate, such as options, futures, and swaps.

Discount Rate:The interest rate used to calculate the present value of future cash flows, reflecting the time value of money and the risk of those cash flows.

Diversification:The practice of spreading investments across various assets, sectors, or geographies to reduce exposure to any single source of risk.

Dividend:A distribution of a portion of a company's earnings to its shareholders, usually paid in cash on a quarterly basis, as determined by the board of directors.

Equity:Ownership interest in a company, represented by shares of stock. On a balance sheet, equity equals total assets minus total liabilities.

Financial Leverage:The use of borrowed funds to amplify potential returns on investment. While leverage can magnify gains, it equally magnifies losses and increases the risk of financial distress.

Inflation:The rate at which the general level of prices for goods and services rises over time, eroding the purchasing power of money.

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