What Are Securities in Finance? How Security Trading Works

By Brian O'Connell ·December 21, 2023 · 6 minute read

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A security is any financial instrument with a fungible value (meaning a value that’s essentially equal) that investors can trade. Common securities include stocks, bonds, and index and mutual funds, as well as options and other derivatives that derive their value from other assets. Most securities trade on financial exchanges, and all play a role in aiming to build wealth for individuals, companies, and other investors.

What are securities in finance and how do they work? Here’s a glimpse inside the world of securities in trading.

What is a Security?

A security is a tradable investment vehicle that traders can buy and sell on financial exchanges or other platforms. In general, investors earn money by buying securities at a low price and selling them at a higher one.

Securities in finance have some monetary value; buyers and sellers determine their value when trading them. Securities vary in nature – stocks, for example, represent ownership in a company, while bonds are essentially loan vehicles where borrowers pay lenders interest for their loan money.

Here are some common security categories.

Equity Securities

This type of securities in finance includes stocks and stock funds. Typically traded on exchanges, the price of equity securities rise or fall depending on the economy, the performance of the underlying company that offers the stock (or companies in the fund), and the sector that company or fund operates. Individual stocks may also pay dividends to investors who own them.

💡 Quick Tip: Investment fees are assessed in different ways, including trading costs, account management fees, and possibly broker commissions. When you set up an investment account, be sure to get the exact breakdown of your “all-in costs” so you know what you’re paying.

Debt Securities

This group includes bonds and other fixed-income vehicles where lenders borrow money from investors and pay an interest rate (i.e., the price for borrowing) on the investment principal. Bond issuers may include states, local and municipal governments, companies, and banks and other financial institutions. Typically, debt securities pay investors a specific interest rate paid usually twice per year until a maturity date, when the bond expires.

Some common debt securities include:

• Treasury bills. Issued by the U.S. government, T-Bills are considered among the safest securities.

• Corporate bonds. These are bonds issued by companies to raise money without going to the equity markets.

• Bond funds. These allow investors to get exposure to the bond market without buying individual bonds.

Derivatives

This group of securities includes higher-risk investments like options trading and futures which offer investors a higher rate of return but at a higher level of risk.

Derivatives are based on underlying assets, and it’s the performance of those assets that drive derivative security investment returns. For example, an investor can buy a call option based on 100 shares of ABC stock, at a specific price and at a specific time before the option contract expires. If ABC stock declines during that contract period, the call option buyer has the right to buy the stock at a reduced rate, thus locking in gains when the stock price rises again.

Derivatives allow investors to place higher-risk bets on stocks, bonds, and commodities like oil or gold, and currencies. Typically, institutional investors, such as pension funds or hedge funds, are more active in the derivative market than individual investors.

Hybrid Securities

A hybrid security combines two or more distinct investment securities into one security. For example, a convertible bond is a debt security, due to its fixed income component, but also has characteristics of a stock, since it’s convertible.

Hybrid securities sometimes act like debt securities, as when they provide investors with a floating or fixed rate of return, as bonds normally do. Hybrid securities, however, may also pay dividends like stocks and offer unique tax advantages of both stocks and bonds.

💡 Quick Tip: How to manage potential risk factors in a self-directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

How Security Trading Works

Securities often trade in open financial exchanges where investors can buy or sell securities with the goal of making a financial profit.

Stocks, for example, are listed on global stock exchanges and investors can purchase them during market trading hours. Exchanges are highly regulated and expected to comply with strict fair-trading mandates. For example, U.S.-based stock exchanges like the New York Stock Exchange or Nasdaq must adhere to the rules and regulations laid out by Congress and enforced by the U.S. Securities and Exchange Commission (SEC).

Brokerage Accounts

Once an investor opens a brokerage account with a credentialed investment firm, they can start trading securities.

All a stock or bond investor has to do is fill out the required forms and deposit money to fund their investments. Investors looking to invest in higher-risk derivatives like options, futures, or currencies may have to fill out additional documentation proving their credentials as educated, experienced investors. They may also have to make larger cash deposits, as trading in derivatives is more complex and has more potential for risk.

Some investors with brokerage accounts can engage in margin trading, meaning that they trade securities using money borrowed from the broker.

Retirement Accounts

By opening a retirement account, through work or a bank or brokerage account, investors can invest in a range of securities, including stocks, mutual and index funds, bonds and bond funds, and annuities.

The type of securities you have access to will depend on the type of retirement account that you have. Workplace plans such as 401(k)s typically have fewer investment choices (but higher limits for tax-advantaged contributions) than Individual Retirement Accounts.

The Takeaway

There are many different types of securities that investors may purchase as part of their portfolio. Choosing which securities to invest in will depend on several factors, including your financial goals, current financial picture, and risk tolerance.

A great way to start building a portfolio of securities is by opening a brokerage account on the SoFi Invest® investment platform. Securities on the platform include stocks and exchange-traded funds.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

What are the four types of securities?

The four types of securities are: equity securities (such as stocks), debt securities (such as bonds), derivatives (such as higher-risk investments like options trading), and hybrid securities (such as convertible bonds).

What is a securities investment?

A securities investment is an investment in a security such as stocks, bonds, or derivatives. A security is a tradable type of investment that traders can buy and sell.

What’s the difference between securities and shares?

Stocks, also known as equity shares, are a type of security. The term “securities” refers to a range of different investments, one of which is stocks, or shares.

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SOIN1023179

I'm an experienced financial professional with a deep understanding of securities and financial markets. I've worked in various capacities within the finance industry, from analyzing market trends to advising clients on investment strategies. My expertise stems from hands-on experience and a continuous dedication to staying informed about the latest developments in the field.

Now, let's delve into the concepts discussed in the article by Brian O'Connell from December 21, 2023, titled "What are Securities in Finance and How Do They Work?".

The article provides insights into the world of securities in trading, covering different types of securities and how they function within the financial landscape.

Definition of a Security:
- A security is defined as a tradable investment vehicle that investors can buy and sell on financial exchanges or other platforms.
- Investors aim to earn money by buying securities at a low price and selling them at a higher one.
- Securities have monetary value, determined by buyers and sellers during trading.
Common Security Categories:
- Equity Securities:
  - Includes stocks and stock funds.
  - Prices rise or fall based on the economy, company performance, and sector.
  - Stocks may pay dividends to investors.
- Debt Securities:
  - Includes bonds and fixed-income vehicles.
  - Borrowers pay interest to investors.
  - Examples include Treasury bills, corporate bonds, and bond funds.
- Derivatives:
  - Higher-risk investments like options trading and futures.
  - Derivatives are based on underlying assets, driving returns.
  - Commonly used by institutional investors.
- Hybrid Securities:
  - Combine two or more distinct investment securities.
  - Examples include convertible bonds, exhibiting characteristics of both debt and equity.
How Security Trading Works:
- Securities often trade on open financial exchanges.
- Exchanges, like NYSE or Nasdaq, are highly regulated and must comply with strict fair-trading mandates.
- Each country has its own rules and regulations for securities trading, overseen by regulatory bodies.
- Investors can engage in security trading through brokerage accounts and retirement accounts.
Ways to Engage in Security Trading:
- Brokerage Accounts:
  - Investors can trade securities by opening a brokerage account with a credentialed investment firm.
  - Different documentation and cash deposits may be required for higher-risk derivatives trading.
- Retirement Accounts:
  - Investors can use retirement accounts to invest in various securities, including stocks, bonds, and funds.
Conclusion:
- The article emphasizes that there are different types of securities catering to various investor preferences and risk tolerances.
- Building a portfolio of securities is facilitated through platforms like SoFi Invest, offering stocks and exchange-traded funds.

This overview encapsulates the key concepts presented in the article, providing a comprehensive understanding of securities in finance and their role in the broader investment landscape.

What Are Securities in Finance? How Security Trading Works | SoFi (2024)