Understanding The Basics Of Financial Literacy

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Today we are going back to basics to discuss some financial terms. Why?

If I have said it once, I have said it a million times, financial literacy is a critical skill for life. Everyone needs a basic understanding of it to be able to successfully manage their personal finances. Unfortunately, according to research by financial services organization TIAA, just 16% of Americans have a high level of financial literacy. And one of the primary barriers for many is the terminology that surrounds money issues.

Today, I want to draw attention to a recent analysis of survey results that analyses this problem, discuss some of the findings, and highlight some resources for your listeners.

Tell us about the findings.

The analysis, conducted by TheKnowledgeAcademy.com in September, is stunning. Interested in the financial competency of everyday Americans, the company analysed findings from YouGov, who surveyed 1,135 American adults to see how confident they are with the definitions of a range of financial words and phrases. While some common terms were widely understood, others caused confusion or were not understood by a majority of respondents. These findings show that the financial services sector and everyday Americans both have work to do to when it comes to financial literacy in this country.

What financial terms are people most confident about?

According to the analysis, 88% of people know what a savings account is, 76% know what a credit union is, and 72% of people understand the term net worth. The Knowledge Academy found seven in ten people could define “asset,” “liability,” and “401k.” Other terms that most people were comfortable with included “stock,” “recession,” and “fixed rate mortgage.”

What terms most confuse people?

Just 36% of people can define amortization. Amortization is the paying off of debt or other expenses with a fixed repayment schedule in regular installments over time like with a mortgage or a car loan.

Only 39% of respondents knew what a mutual fund is. A mutual fund is an investment vehicle made up of a pool of money collected from many investors for the purpose of investing in assets like stocks or bonds. Mutual funds are operated by professional financial managers who oversee the fund’s portfolio and attempt to produce returns for investors.

Under half – 49% – of respondents had a solid understanding of what and index fund is. Index funds are a type of mutual fund with a portfolio constructed to match or track the components of a market index, such as the S&P 500. 

We cannot cover all of the financial terms here on Money Monday. Are there resources that our listeners can use to bone up on financial lingo?

Absolutely! I would encourage people to visit Investopedia.com’s online dictionary or the Forbes Financial Glossary. Both are great sites that people can go to to look up the definitions of different financial terms.  If you want to go beyond the terminology, the Center for Consumer Financial Education has some recommended courses you can take online.

Mellody is President of Ariel Investments, a Chicago-based money management firm that serves individual investors and retirement plans through its no-load mutual funds and separate accounts.  Additionally, she is a regular financial contributor and analyst for CBS News and CBS.com.

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