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What is Finance Theory?

Jessica Ellis
Updated May 16, 2024
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Finance theory is a broad field of both speculation and mathematical measurements used to determine investing strategies and monetary value estimates. Theories of finance are also used to create fundraising and capital creation plans and manage financial risk. Each area of finance may have dozens of associated concepts of finance theory; understanding all of them could take a lifetime of study.

Some types of finance theory help determine concrete items such as how much money will be paid over time for a mortgage or car loan. These theories measure the initial investment, the amount of payments, and the impact of interest to help determine the actual value of a loan. Some finance theories take this analysis a step farther, factoring in issues such as probable inflation through the use of algorithms and economic forecasting. Measuring the value of money over time can be quite important to investors, as it allows a long-term perspective on a decision made in the present.

Most of finance theory, however, does not deal in absolutes. Some financial experts will freely admit that investing theories and market patterns may have a large component of luck and chance that all of the theorizing in the world cannot remove completely. Just as with gambling, strategies, practice and theories may help maximize chances of profit, but cannot guarantee a win. For that reason, financial experts often encourage investors to keep educating themselves in new finance theories and concepts.

Some finance theory revolves around the management of a business. Factors that go into creating a finance theory or strategy for a company might include their current profit margin, debt-to-asset ratio, market forecast, and the possibility of incorporation. Looking at all of these factors can help a business owner or financial manager create a feasible plan for the future by balancing the possibility of risk against the possibility of returns.

Personal finance theory usually revolves around creating viable investing strategies. One of the most popular finance theories is known as modern portfolio theory, or MPT, and suggests that one of the most successful ways to achieve reliable returns is by diversifying investments. By spreading out stocks and shares across multiple markets, an investor may lower the risk of a serious loss due to a crash in one particular market.

Comprehending many finance theories takes grounding in both mathematics and the financial market. There are many books and websites that help explain the basics of particular finance theory, or give an overview of the most popular theories in a field of finance. Finance theory is often a popular topic for seminars or community college courses, which can provide an excellent starting place for new investors.

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Jessica Ellis
By Jessica Ellis
With a B.A. in theater from UCLA and a graduate degree in screenwriting from the American Film Institute, Jessica Ellis brings a unique perspective to her work as a writer for SmartCapitalMind. While passionate about drama and film, Jessica enjoys learning and writing about a wide range of topics, creating content that is both informative and engaging for readers.
Discussion Comments
By anon946627 — On Apr 21, 2014

This is why finance people are idiots. This stuff isn't considered theory at all. A real theory is an idea that has been validated through testing, not ideas that have failed testing over and over again.

Jessica Ellis
Jessica Ellis
With a B.A. in theater from UCLA and a graduate degree in screenwriting from the American Film Institute, Jessica Ellis...
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