7.   Return on investment (RoI)

This is used as a measure of strength for different asset classes. It is calculated by dividing the returns by the capital investment and then multiplying that by 100.

A good asset should demand less in capital investment and give you more returns. This is how you increase RoI. If the capital investment is zero, the asset will have an infinite RoI. This is very preferable.

If you have two options; investing in asset A or asset B, always calculate the return of investment. Read our article on The 3 financial concepts that make people rich to understand more.

8.   Opportunity cost

This is the value of the foregone alternative. It is what you lose if you fail to make an investment or invest elsewhere. It is the returns you forego by making an investment decision.

If you have an option of investing in asset A or B and you choose to invest in A, the returns you would have gotten from asset B is the opportunity cost.

Always calculate the opportunity cost of making a certain investment and subtract it from the returns of the asset you have chosen to invest in. This is what most people do not do. Opportunity cost is a cost like any other.

9.   Liquidity

We say an asset is liquid if it can be converted into cash easily. How easy is it to make money by selling it?

This is where we get the term ‘to liquidate’. To liquidate is to sell something to get cash. This is why cash is often called Liquid cash.

If something cannot easily be converted into cash, do not buy it unless you have a long term view of the investment. If you are investing to make money in the short run, it is important to invest in liquid assets.

For example, real estate is less liquid than business inventory. This makes real estate a good long term investment and inventory a good short term investment.

10.   Inflation

This is a common term. Inflation is the steady increase in the prices of goods over time. Inflation eats up purchasing power. This means that with inflation, one million will buy fewer goods than with no inflation.

The opposite of inflation is deflation. This is a steady decrease in the prices of commodities over time. This is not very common in the real world. This is because of greed.

As businesspeople become greedier for gain, they charge more for their goods. When they charge more, employees demand more salary from them to afford the now more expensive commodities.

The businesspeople will then have to raise the prices again to be able to pay higher salaries. The cycle continues and commodities continue becoming more expensive.

Greed can also emanate from employees. As the demand more salaries out of greed, the employer will have to increase the prices of commodities. The cycle starts again.

It is important to invest in assets that give you a higher RoI than the prevailing inflation rate. The returns should always offset the increase in prices.

This is why saving money in a bank account for years is a losing strategy. The annual interest you receive will always be less than the annual inflation rate. You end up losing thinking that you are gaining.

Conclusion

These 10 key financial definitions will always have an impact on your wealth creation process. It is important to understand them and do as each requires. This is the beginning of financial intelligence.