We hear all the time about financial markets, financial instruments, and how financial markets affect the global economy. What are these financial instruments? Find out everything you need to know about financial instruments in the markets.
Financial instruments are legal obligations or contractual relationships whereby one party transfers an asset or value to another party under certain circumstances and at a future date.
More specifically, financial instruments are assets that are traded on exchanges. Assets can be cash, various contractual rights to receive or pay money or other types of instruments, or evidence of equity ownership in economic entities or capital packages.
All of us had to deal with financial instruments at some point. Here are some examples:
Financial instruments – bank deposit
It is the most popular, best known, and most straightforward financial instrument for savings and investments. When you put an amount of money into a bank deposit, the bank will compensate you with interest for the period in which you keep the money in that deposit.
Another well-known financial instrument. The shares that owners own in a joint-stock company are shares, and of course, they are financial instruments. If you own 50 shares of a company like Apple or Google, then you own financial instruments.
Financial instruments – CFD
If you are trading currencies through an online broker and a trading platform, you will be trading CFDs. Currency pairs are CFDs and thus financial instruments.
Today in the financial markets, there are many types of financial instruments, from simple to more complex, to meet the requirements and needs of different economic entities. CFDs have become very popular recently because online trading has easily allowed traders to access the financial markets easily. The amounts invested are tiny, starting at $ 250 at most brokers.
Features of financial instruments
- It indicates the exact next date that the payment for that financial instrument will take place.
- The terms under which payment will be made are clearly and precisely defined.
- The contract must be executed – this is an essential component provided in the financial instrument specification.
- Financial instruments refer to the apparent obligation of both parties – a natural person, company, or state/state entity, to transfer an asset or an amount of money to the other party.
Types of financial instruments
Issued by an economic entity, usually a joint-stock company, to attract capital to expand or restructure. They are variable income securities that, depending on the company’s financial results, give the right to vote at the general meeting of shareholders and the right to own part of the share capital.
Bonds are securities that give their holder the right to claim and generate stable income. Through bonds, the issuer obtains capital through a loan and pledges to repay the loan and the specified interest at a future date called maturity. Countries, public entities, or private companies may issue bonds in the capital market. Bonds generate guaranteed income and do not confer equity in the issuer’s capital.
A futures contract is a contract or arrangement between two entities to buy or sell an asset at a predetermined price at a specific, later date.
Futures contracts are used for investment investments and speculation in the stock market to generate profits or hedge risks related to the assets on which those contracts are based.
Options are contracts between the seller and the buyer, in which the buyer retains the right but is not obligated to buy or sell that asset at a future date. To take advantage of this right, the buyer pays a premium.
A CFD or Contract for Difference is a contract between an investor/speculator and a broker or investment bank. Specific to CFDs is that these contracts are based on spreads, and you do not have to own these assets. Upon concluding the contract, the contracting parties exchange the difference between the opening price and the closing price of the contract for a distinction based on a specific financial instrument.
ETFs or exchange-traded funds are primarily mutual funds that trade on the stock exchange at any point during the day. Funds own many underlying assets – stocks, bonds, and futures – and ownership of these assets is divided into shares.
A mutual fund is an investment tool, the main feature of which is that the funds of a group of investors are professionally managed. Mutual fund management invests in various financial assets – forex, stocks, CFDs, bonds, money market instruments, or multiple combinations of them depending on the investment objectives the fund has.