What Are Marketable Securities?
Marketable securities are a form of security or debt that can be converted or sold for cash in a year or less. Their liquidity comes from both the time they can be redeemed and their redemption rate. Their price has little to do with the rate at which they are bought or sold.
As such, marketable securities need to have a face value, or a value close to face value in a one-year span. There also are no restrictions on selling these securities in a year or less.
Basic Elements of Marketable Securities
Marketable securities typically have the following elements:
- Redeemable within a holding period of one year
- Can be converted into cash through a sale or redemption at close to the face or market value
- A strong secondary market to sell or redeem quickly
- Classified as current assets on company’s balance sheets
- No restrictions on selling or redeeming in the short-term future.
Types of Marketable Securities
The common types of marketable securities include:
- Common or preferred unrestricted stock of another business
- Banker’s acceptance notes
- Commercial paper or short-term notes issued by another corporation to finance debts
- Exchange-traded Funds (ETFs)
- U.S. Treasury bills
- Other types of money market security instruments.
Money market instruments are a type of debt security where the investor trades or liquidates the security for cash within a year or less. U.S. Treasury bills are a short-term debt obligation from the U.S. Treasury Department. They also have a redemption period of one year or less.
The Use of Marketable Securities
Businesses can liquidate marketable securities within a year at face value or close to face value. As such, they have quick access to this cash to invest or use when needed. Marketable securities are usually classified as current assets on a company’s balance sheet because of their short-term liquidity potential. Companies will consider their marketable securities along with cash and other current assets in determining the spending budget for the fiscal year.
How Other Parties Consider Marketable Securities
Lenders will look at them for deciding whether to grant a loan and also the interest rate for loans.
Market analysts and investors look at marketable securities on company balance sheets to understand the liquidity of the assets of a company. This indicates some assurance as to whether any proposed upcoming projects and debts can be covered by the company’s assets. It also helps indicate whether a company can weather any potential short-term issues (should they arise) that require cash.
Why Companies Obtain Marketable Securities
Marketable securities are a means for a company to have ready access to cash when needed. They also offer a chance to obtain a rate of return that would otherwise not be available.
Since they can be liquefied fast, they act as available current assets for most short-term company needs. However, they can still offer an additional interest rate that can generate a higher return than cash assets.
Marketable Equity Securities vs. Marketable Debt Securities
Businesses can buy marketable equity securities to obtain equity or stock in another company. The acquiring business lists them as a current asset on their balance sheet. However, if the business acquires them as part of a buyout, the company will list them as a long-term asset on their balance sheet.
Marketable debt securities are also short-term investments that a company usually plans to sell or redeem within a year. They are bonds bought from another company that are available to be sold without restriction within that year. And they usually have a strong secondary market on which to sell them for close to face value.
Liquidity Ratios and Marketable Securities
Liquidity ratios are indicators of how well a company may meet short-term financial obligations. There are three types of liquidity ratios that marketable securities are used to calculate:
Cash Ratio = Market Value of Cash and Marketable Securities / Current Liabilities
You can calculate the cash ratio of a company by taking the sum of a company’s cash and marketable securities value and dividing that by the company’s current liabilities. It indicates if the company can meet current financial obligations with the current assets that the company has on hand.
Current Ratio = Current Assets / Current Liabilities
To measure the current ratio, simply calculate the current assets of a company divided by its current liabilities. This ratio can assist analysts in determining a company’s ability to pay off short-term debts.
Quick Ratio = Quick Assets / Current Liabilities
Compared to the current ratio, the quick ratio uses only quick assets in the formula. You can convert these assets into cash much faster and include the marketable securities held by a company.
Equity Marketable Securities
The typical equity marketable securities are stocks from publicly traded companies. Bonds or bond notes are the usual marketable debt security that individual investors may obtain as an investment, with a short-term goal.
Stocks in a company typically give the shareholder or individual investor voting rights and dividends. The value of the shares can fluctuate for companies based on the company’s performance and the overall economy. Some shares carry a greater risk than others.
You can trade marketable securities on the larger stock markets, such as the New York Stock Exchange. This gives individuals the option to sell them quickly if they choose, so long as there are no restrictions on selling.
Marketable Debt Securities
While the rate of return tends to be lower than longer-term securities, the ability to quickly trade marketable securities for cash is one of their primary advantages.
Bonds will have a fixed percentage or rate of return attached to them that guarantees a set amount upon redemption. They are similar to loans that may be otherwise obtained from lenders but are instead bought for the purpose of selling to potential investors. Banks or the governments issue the bonds and sell them to investors. The buyers can be individuals or companies. Shares bought by investors can give a company capital or access to funds for expenses and projects.
Other Types of Marketable Securities
Preferred Stocks of a Company
Preferred stocks or shares bought from another company are similar to bonds. Both have a fixed rate of return. However, bonds provide a fixed interest rate to the investors, whereas preferred shares afford fixed dividends that are paid out to the investors before common shareholders. Investors in a company’s bonds will get their return plus interest before preferred shareholders.
Unlike common shareholders, though, preferred shareholders do not have voting rights in the company they have invested in.
Preferred Stock: A Good Thing to Own in a Market Correction
Exchange-traded funds, or ETFs, are a collection of securities that can include commonly sold shares in public companies, as well as other securities such as gold or valuable metals.
ETF Definition: What is an Exchange-Traded Fund?
Experienced Advisors Can Provide Guidance
If you are considering investing in marketable securities and need guidance in understanding the risks and benefits, then an experienced advisor can offer assistance.
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