FINANCIAL ASSETS

FINANCIAL ASSETS

Capital assets /financial assets/ financial instruments:

A capital asset is defined as property of any kind held, whether connected with their business or
profession or not connected with their business or profession. It includes all kinds of property,
movable or immovable, tangible or intangible, fixed or circulating. Thus, Land and building, plant
and machinery, motorcar, furniture, jewelry, route
permits,goodwill,copyrights, patents, trademarks, shares, debentures, securities, units, mutual
funds, zero-coupon bonds etc. are capital assets. These are also called “financial assets”, “financial
products” and “financial instruments”.

Different types of financial/capital assets:

 T-bills
 Commercial papers
 Government bonds
 Corporate bonds (investment or medium grade)
 Preferred stocks
 Common stocks (conservative or speculative)

Treasury bills (T-bills):

Treasury bills, also known as "T-bills," are a security issued by the government. When you buy
one, you are essentially lending money to the government. Here, the term security means any
medium used for investment, such as bills, stocks or bonds. You have the option of buying bills
with maturity periods of one month, six months or one year. Generally, the longer the maturity
period, the more money you will make from your investment. The face value of a treasury bill is
called its par value, and the most commonly sold bills have a par between $1,000 and $10,000.

Issuance:

Usually the T-bills are issued by the Government; this is the main reason behind their risk free
nature. These are usually for 3 months (90 days) or 6 months (270 days).

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Element of risk:

Treasury bills are one of the safest forms of investment in the world because they are backed by
the government. They are considered risk-free.

The Origins of Treasury Bills

Treasury bills were first used in the United States during World War I, as a source of emergency
funds to help balance the unprecedentedly high public debt. By the end of World War II, T-bills
had become the most popular form of short-term government security.

Drawback of T-bill:

One of the only downsides to treasury bills is that the returns are smaller than those from many
other forms of investment. This is because they are so low-risk. There is direct relation between
risk and rate of return that is;

Risk (↑) then Rate of Return (↑)

Risk (↓) then Rate of Return (↓)

Prime grade commercial papers:

These are the promissory note (issued by financial institutions or large firms) with very-short
maturity period (usually, 2 to 30 days, and not more than 270 days), and secured only by
the reputation of the issuer. Rated, bought, sold, and traded like other negotiable instruments,
commercial paper is a popular means of raising cash, and is offered generally at a discount instead
of on interest bearing basis.

Issuance:

There are two methods of issuing credit and these are as follows:

 The issuer can market the securities directly to a buyer and hold investment such as
most money market funds.

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 Alternatively, it can sell the paper to a dealer, who then sells the paper in the market. The
dealer market for commercial paper involves large securities firms and subsidiaries of bank
holding companies. Most of these firms also are dealers in US Treasury securities.

Element of risk:

Commercial paper is usually issued by companies with very high credit ratings. Because of this,
and because it generally matures in a very short period of time, commercial paper tends to be a
very low-risk investment.

Transaction:

Although commercial paper is occasionally issued as an interest-bearing note, it typically trades at

a discount to its par value. In other words, investors usually purchase commercial paper below
par and then receive its face value at maturity. The discount, or the difference between the
purchase price and the face value of the note, is the interest received on the investment. All

commercial paper interest rates are quoted on a discounted basis.

Long term government bond:

A debt security issued by a government to support government spending, most often issued in the
country's domestic currency. Government debt is money owed by any level of government and is
backed by the full faith of the government.

Element of risk:

 Political risk
 Inflation risk
 Currency risk

Issuance:

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These are issued by national government to support the government spending and generally with a
promise to pay periodic interest payments and to repay the face value on the maturity date. Most
often issued in the country’s domestic currency.

Maturity:

These bonds have a maturity of more than 10 years.

Corporate bonds:
A corporate bond is a bond issued by a corporation in order to raise financing for a variety of
reason such as to ongoing operations, M&A, or to expand business.

Maturity:

The term corporate bond is usually applied to longer-term debt instruments, with maturity of at
least one year. Corporate debt instruments with maturity shorter than one year are referred to
as commercial paper.

Trading:

Corporate bonds trade in decentralized, dealer-based, over-the-counter markets. In over-the-

counter trading dealers act as intermediaries between buyers and sellers.

Types of corporate bonds:

Corporate bonds are divided into two main categories High Grade (also called Investment Grade)
and High Yield (also called Non-Investment Grade, Speculative Grade, or Junk Bonds) according to
their credit rating.

Investment grade corporate bonds:

The Investment Grade Corporate Bond is one of the largest fixed-income and provides a
reasonable option for investors who don’t want to invest in speculative-grade corporate
commitment.

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When a bond is rated investment grade, its issuer is considered able to meet its obligations, expos
ing bondholders to minimal default risk. Corporate bonds that matures in less than one year is
typically called "commercial paper"

Issuance:

Investment-grade corporate bonds (LQD) are debt securities issued by corporates rated BBB- or
above by credit rating agencies such as Standard and Poor’s or Moody’s. These corporates are
issued ratings based on their financial strength, operational past performance, and future prospects.

Element of risk:
Investment-grade bonds are considered sufficiently low-risk that the law allows banks to invest in
them. In addition to being low-risk, investment-grade bonds are low-return, greatly reducing the
cost on the issuer.

Preferred stocks:
A class of ownership in a corporation that has a higher claim on the assets and earnings than
common stock. Preferred stock generally has a dividend that must be paid out before dividends to
common stockholders and the shares usually do not have voting rights. Also known as "preferred
shares".

Issuance:

Preferred stock is a type of stock issued by a business that usually pays a fixed dividend prior to
any distributions to the holders of the common stock of the business.

Characteristics of preferred stocks:

 Preferred stock typically has predetermined dividends which are paid at predetermined
dates.
 Preferred shares may gain or lose some value, but do not fluctuate nearly as much as
common stock.

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 Preferred shareholders tend to receive the same dividend without any payment hikes. This
makes preferred shares almost like a high-yield bond.

 In the case of bankruptcy, preferred shareholders are given preference over common stock
shareholders in getting paid back for their initial investment.

Maturity:

Preferred stocks are either perpetual (have no maturity) or are generally long term, typically with
a maturity of between 30 and 50 years. In addition, many issues with a stated maturity of 30 years
include an issuer option to extend for an additional 19 years.

Element of risk:

Preferred stocks have greater risk as it results in greater return (high yield).

Conservative common stocks:

They're often referred to as "equities," since each share represents a small part of the equity in a
given company. Some stocks are riskier than others. Newly established companies, companies in
new or rapidly-changing sectors and companies in emerging foreign economies are all considered
risky. You win big when they pay off, but lose big when they fail. Stability is the hallmark of a
conservative stock. They're typically the stocks of well-established companies with solid
management, operating in mature sectors of a mature economy.

Element of risk:

The main characteristics of conservative stocks are low volatility, long-term growth and low risk
of capital loss. Conservative stocks are particularly well suited for retirees, who are unwilling to
tolerate excessive market volatility and cannot afford to lose money on their investments.

Issuance:

Conservative stocks are equity securities that are issued by financially stable companies and trade
in the public stock market.

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Speculative common stock:

A stock with a high degree of risk. A speculative stock may offer the possibility of substantial
returns to compensate for its higher risk profile. Speculative stocks are favored by speculators and
investors because of their high-reward, high-risk characteristics.

Element of risk:

A necessary condition for investing in speculative stocks is a high tolerance for risk. This means
an investor in a speculative stock should be prepared for the possibility of losing the full amount
invested if the stock price goes down to zero.

Trading:

Speculative stocks usually have a very low share price, and often trade on smaller exchanges like
the OTC Markets in U.S. Speculative stocks outperform in very strong bull markets, when
investors have abundant risk tolerance. They underperform in bear markets, because investors’
risk aversion causes them to gravitate towards larger-cap stocks that are more stable.

Maturity:

The maturity for speculative common stock is less than 10 years.

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