Securities: a quick guide for investors
Securities are the basis of financial markets — a symbol of property, debt claims, and derivative contracts that facilitate the flow of capital in the economy. How do you distinguish them from other investment instruments and make wise financial choices? How do you use them to diversify a portfolio, assess risks and meet regulatory requirements? Delve into the world of securities with this FBS article and find out.
The main categories of securities
There are four broad categories: equity securities, debt securities, derivative financial instruments, and hybrid securities. Each is used for different financial goals.
Equity securities
Equity securities represent ownership in a company. When you buy an equity (a share), you essentially become a part-owner or shareholder. Investors have a right to receive a share of the company’s profits in the form of dividends and capital gain.
Equities come in two main types:
Preferred stock (can also be considered a hybrid security) — shareholders don’t get voting rights (or this option is limited), but there are usually fixed dividends and the preferred stock owner gets paid first in case of liquidation (Bank of America preferred shares (BAC.PR.L)).
Stocks have high return potential, but also have higher risks. Note that the value of a stock depends on the company's performance and market conditions.
Why choose equities?
You can trade shares on stock markets such as the New York Stock Exchange (NYSE) and Nasdaq — they have high liquidity and can be easily bought and sold.
Debt securities
Debt securities include bonds, treasury securities, and corporate debt obligations. Any debt security is a loan — businesses or governments borrow money from investors, who, in their turn, get regular payments of interest (also called coupon payments) and principal repayment upon an agreed maturity date.
What are the types of debt securities?
Bonds are long-term debt instruments that typically mature in more than 1 year.
Treasury bills (T-bills) are short-term government securities (they usually mature in less than 1 year).
Commercial papers are short-term corporate debts (their maturity date is usually up to 270 days). For instance, Tesla, Inc. issues bonds.
Municipal bonds are loans issued by cities or states to fund public projects (for example, New York City municipal bonds).
Why choose debt securities?
Debt securities offer fewer profits, but they are less volatile. You can lower the overall risk level of your portfolio and diversify it with bonds. If you are a conservative investor and want stable yields and lower risks, you might prefer bonds. Government bonds, such as U.S. Treasury bills, are usually considered risk-free. Corporate bonds offer a higher payment, but come with some credit risk.
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Derivatives
Derivatives are financial instruments whose value depends on the value of an underlying asset such as stocks, bonds, commodities, currencies or interest rates. Derivatives include:
Options — they give an investor the right (but not obligation) to buy or sell an asset at a set price.
Future contracts (or simply futures) — obligations to buy or sell an asset at a predetermined price at a future date.
Swaps — agreements to exchange cash flows (for example, interest rate swaps).
Why buy derivatives?
Derivatives can be a useful tool in your portfolio. They allow traders to speculate on price changes, hedge against risk, and take advantage of positions with little capital investment to get strategic trading opportunities. For example, to speculate on or hedge market movements, look into S&P 500 futures. Note that they provide no direct ownership of the underlying asset.
Be aware that although they are used for hedging, derivatives themselves can be complex and high-risk, so this type of securities requires experience and demands a cautious approach.
Hybrid securitiesh
Hybrid securities combine elements of both debt and equity securities — they can pay regular income like bonds but may also convert into shares under certain conditions. It’s a compromise between risk and return for those investors who seek higher profits but are risk-cautious. Hybrids include:
Convertible bonds — bonds that can convert into a predetermined number of shares on agreed terms.
Perpetual bonds — come with no maturity date and often pay fixed interest forever.
Preferred shares — can also be considered equities, as stated above.
Why choose hybrid securities?
Hybrids offer fixed income and the potential for equity upside. They also stand somewhere in the middle between stocks and pure bonds in terms of risk. All in all, they are useful for income-seeking investors with moderate risk tolerance.
Check our comparative chart of securities and choose what you need.
Securities type | Ownership | Type of income | Risk level | Example |
Equity securities | Yes | Dividends or interest (depends on the asset) | High | Apple (AAPL) stock |
Debt securities | No | Fixed interest | Low to average | U.S. Treasury bonds, Tesla bonds |
Derivatives | No | Varies | High | S&P 500 futures, call options |
Hybrid securities | Partial: depends on the asset | Fixed or variable | Average | Convertible bonds, preferred stock |
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Regulatory framework and compliance
Securities regulation is designed to protect investors from fraud, ensure fair, transparent, and efficient markets, and maintain financial stability for all players involved.
It is important for both traders and investors to understand the regulatory demands and restrictions that apply to securities. In the U.S. the securities market is regulated by the Securities and Exchange Commission (SEC); in Europe — by the European Securities and Markets Authority (ESMA). The regulation rules may vary across locations, but they pursue the same objectives:
to make sure that companies provide full, accurate, and timely information such as repayment terms, risks, and financial health;
to exclude the possibility of insider trading and market manipulation; and
to prevent excessive speculation.
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Securities vs. alternative investments
It’s also important to distinguish securities from other investments like real estate, commodities, and direct investment. While these alternative assets might be useful for diversifying your portfolio, they do fall into the conventional definition of securities.
Alternative investments include:
real estate — residential or commercial property;
private equity — ownership in private companies;
hedge funds — pooled funds requiring advanced strategies;
commodities – gold, platinum, oil, etc;
cryptocurrencies – Bitcoin, Ethereum, etc;
collectibles — for example, pieces of art.
Contrary to publicly traded securities, they have:
Summary
To make well-weighed financial decisions, it’s important to understand what kind of investments fall within the category of securities, and how each of these categories work. Combining this knowledge with experience in the never-static markets is a key to long-term economic prosperity.
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