What are Financial Assets?
Both big and smaller corporations invest in financial assets for increasing their income sources.
Financial assets are financial securities whose value are derived from contractual right or claims. They do not have a physical existence, but they are present in the form of certificates or listings on a computer screen.
Some examples of financial assets are cash, stock (equity shares of a company), bonds, mutual funds and certificates of deposits, receivables, derivatives, commercial papers, stocks and other money and capital market instruments.
They are more liquid than other physical assets. They are tradable in a money or capital market such as Stock Exchanges, Financial institutions, etc.
The monetary value of financial assets can be either:
- FACE VALUE: The value written on the certificate, which is derived from the underlying assets. These assets could be real or intangible.
- MARKET VALUE: The value in the market which is determined on the basis of demand and supply forces in the marketplace along with the degree of risk associated with them.
FINANCIAL ASSETS TYPES IN IFRS
According to the International Financial Standards Reporting (IFRS), financial assets are:
- An entity’s equity instruments —for instance, a share certificate.
- A contractual right of receiving a financial asset from another entity— called as a receivable.
- The contractual right of exchanging financial assets or liabilities with another entity under favorable conditions.
- A contract that will settle in an entity's own equity instruments.
SHORT-TERM AND LONG-TERM
Investments made in financial assets can be for the long-term or short-term:
- Investments for Short-term
These are investment in financial assets which have a short span of time for maturity (a year or less than a year). These short-term financial assets are traded in Money Markets. They are highly liquid and marketable securities having low-cost and risk, which is why they are also called cash equivalent. The common marketable securities are:
- Certificates of deposits (CDs): these are time deposits and cannot be withdrawn before maturity. The most common type of certificate of deposit is the Negotiable Certificate of Deposit which can be sold in the money market before maturity. Their prices are based on the current discount rate and the days left to maturity.
- Treasury Bills (TB): These securities are issued by the government through money regulatory authority (Central Bank). These are the most liquid securities because they are supported by the government. Treasury Bills are used to control money supply for maintaining equilibrium in the economy.
- Commercial papers: Commercial papers are issued by large and prestigious corporations to the public. Instead of getting direct loans from Commercial Banks, these corporations collect cash through issuing such financial securities.
- Banker’s Acceptance (BAs): IBanker’s Acceptance are the arrangements made by customer companies in collaboration with their banks to pay some amounts in future dates to other companies. The banks accept these agreements and pay the amount to the bearer on the due date. These are negotiable instruments and can be discounted in the market. They are used in international trade (import, export).
- Repurchase Agreements (Repos): The Repurchase agreements are the agreements made on Treasury bills by the dealers. The dealers purchase Treasury Bills from the owners just for night and sell it back to them on the next morning at a slightly higher price. The increase in price is the interest earned over them in the night.
- Investments for Long-term
These are investments in those financial assets that have a long life span (more than one year) from the date of the issue. These financial assets are traded in Capital Markets. This financial market comprises of fixed and variable securities that are issued by the government and corporations too. The common examples of financial assets having long life are bonds and stocks.
- Treasury Bonds: Like Treasury Bills, Treasury Bonds are also issued by the government through monetary regulatory bodies (Central Bank). They are issued for a long time period of maturity (10-30 years). The government issues these bonds for raising funds from the public for completing its infrastructure and developmental projects. They are callable in nature.
- Corporates Bonds: Corporate Bonds are issued by the Companies for a longer period of maturity (more than one year). Companies borrow funds from the public by issuing these bonds for financing their projects or assets. These bonds provide a return in the form of interest which is fixed income received periodically (annually or monthly) till the date of maturity. They could be callable by the issuing company and could be convertible into shares of the issuing company.
- Corporate Stocks: Companies also issue stocks (shares) which do not have a maturity or expiry date. They could be held for the long-term or could be sold to another person. They provide a return in the form of dividends and capital gain which is variable in nature. There are two basic types of shares common shares and preference shares. They provide the right of ownership of a certain portion of the issuing company.
Ephraim Matanda (2020), "Modern Financial Investment Management, Cambridge Scholars Publishing.