What are Investment Securities?

Investment Securities

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Investment Securities

Investment securities are financial instruments that can be bought and sold on open markets, with the expectation that they will generate a return. These instruments represent either an ownership stake in a company, a creditor relationship with a company or governmental body, or rights to ownership as represented by an option.

There are three main types of investment securities:

  • Equity Securities: These represent ownership in a company and come in the form of shares of stock. Investors who own stock can benefit from increases in the company’s value and may receive income through dividends.
  • Debt Securities: These represent loans to a company or government entity. The most common forms of debt securities are bonds and certificates of deposit. Debt securities typically pay interest to their holders and are expected to return the principal to the holder at maturity.
  • Derivative Securities: These are financial contracts that derive their value from an underlying asset, which could be stocks, bonds, commodities, currencies, interest rates, or market indexes. Options and futures are common types of derivatives. They can be used either to hedge risk or to speculate on the price movement of the underlying asset.

Investment securities can be an important part of an investment portfolio. By investing in a mix of different types of securities, investors can aim to achieve a balance of risk and return that meets their specific investment goals.

Example of Investment Securities

Let’s consider examples of each type of investment security:

  • Equity Securities: Lisa purchases 100 shares of Company A’s stock at $50 per share. By purchasing these shares, Lisa now owns a small piece of Company A. She hopes that the company’s success will lead to an increase in the stock price. Additionally, if Company A distributes profits back to shareholders in the form of dividends, Lisa will receive her proportionate share.
  • Debt Securities: David buys a bond issued by City B for $1,000. This bond pays 3% interest annually and matures in 10 years. David will receive $30 each year as interest. At the end of the 10 years, City B will return the $1,000 principal to David. Through this bond, David has essentially loaned money to City B, and City B is paying David interest for the privilege.
  • Derivative Securities: Sarah buys a call option contract for Company C’s stock. This contract gives Sarah the right (but not the obligation) to buy 100 shares of Company C’s stock at a predetermined price (the strike price) before a certain date (the expiration date). Sarah is speculating that the price of Company C’s stock will increase, allowing her to buy the shares at a price lower than the market value.

Please note that while these examples illustrate the potential for earning a return, investing in securities also involves risks, including the possibility of losing some or all of the money invested.

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