Investment Securities Definition - How to Buy and Sell Securities

What Are Investment Securities?

Investment securities are a category of securities—tradable financial assets such as equities or fixed income instruments—that are purchased with the intention of holding them for investment. As opposed to investment securities, in general, securities are purchased by a broker-dealer or other intermediary for quick resale.

Investment securities are subject to governance via Article 8 of the Uniform Commercial Code (UCC).

Understanding Investment Securities

Banks often purchase marketable securities to hold in their portfolios; these are usually one of two main sources of revenue, along with loans. Investment securities can be found on the balance sheet assets of many banks, carried at amortized book value (defined as the original cost less amortization until the present date).

The main difference between loans and investment securities is that loans are generally acquired through a process of direct negotiation between the borrower and lender, while the acquisition of investment securities is typically through a third-party broker or dealer. Investment securities at banks are subject to capital restrictions. For example, the number of Type II securities or securities issued by a state government is restricted to 10% of the bank's overall capital and surplus.

Investment securities provide banks with the advantage of liquidity, in addition to the profits from realized capital gains when these are sold. If they are investment-grade, these investment securities are often able to help banks meet their pledge requirements for government deposits. In this instance, investment securities can be viewed as collateral.

Types of Investment Securities

Equity Stakes

As with all securities, investment securities held by banks as collateral can take the form of equity (ownership stakes) in corporations or debt securities. Equity stakes can be in the form of preferred or common shares—although it is critical that they provide a measure of safety in this case. High-risk, high-reward securities, such as initial public offering (IPO) allocations or small gap growth companies. Might not be appropriate for investment securities. Some companies offer dual-class stock, which provide distinct voting rights and dividend payments.

Debt Securities

Debt securities can take the common forms of secured or unsecured corporate debentures. (Secured corporate debentures can be backed by company assets, such as a mortgage or company equipment). In this scenario, secured debt (also called investment-grade) would be preferred. Treasury bonds or Treasury bills and municipal bonds (state, county, municipal issues) are also options for a bank’s investment securities portfolio. Again, these bonds should be investment-grade.

While securities, in general, include derivative securities—such as mortgage-backed securities, whose value is derived from the asset(s) underlying the financial instrument—these are higher risk and not often encouraged to be part of a bank’s investment securities portfolio.

Money Market Securities

Other types of investment securities can include money-market securities for quick conversion to cash. These generally take the form of commercial paper (unsecured, short-term corporate debt that matures in 270 days or less), repurchase agreements, negotiable certificates of deposit (CDs), bankers' acceptances, and/or federal funds.

How to Buy and Sell Securities

Brokerage Houses

One of the most common and easiest ways of buying and selling stocks, mutual funds, and bonds is through a brokerage house. Brokerage firms typically require you to open an account with them and deposit a certain amount of funds as a show of good faith. Brokerages are popular because they (rather than you) do much of the behind-the-scenes work. Such as completing the necessary paperwork and ensuring timely dividend payments. Choosing the right broker is an important first step for new investors.

Full-Service Brokers

Historically, the primary way for investors to enter into the securities market was to simply contact their full-service brokers and have them purchase different stocks and bonds on their behalf. Because of the personal relationship that often develops between investor and broker, full-service brokers typically call their clients and provide recommendations for buying or selling particular securities.

Discount Brokerages

Discount brokerages have become increasingly popular with investors thanks to ever-decreasing commission fees. These brokerages, like large supermarkets, offer investors a huge selection at a low cost. However, investors have to do most of the work themselves. At almost all discount brokerages, you can buy stocks, bonds, or mutual funds either by calling one of the investment representatives—who will collect a commission—or completing the transaction yourself online.

Either way, you'll need to enter an order ticket. Which states the type of security you want to purchase (bond, stock. or mutual fund), the price you want to pay for it. The quantity you would like to buy, and the duration for which you would like to leave the order active (e.g., one day to one month).

Upon proper completion of the order, the order is sending to the exchange. Where the stock, bond, or mutual fund is bought or sold at whatever terms are on the order ticket.

Directly From the Business

More often than not, the method of transacting directly with the issuing company is more difficult than buying and selling securities through a broker; albeit transacting directly does have advantages.

When evaluating this transaction method, the first thing to consider is whether you are comfortable holding the securities yourself? When you buy stocks or bonds directly from the issuer, they will be held in certificates, either in registered or bearer form.

If your purchase is in bearer form, the issuing entity does not keep any records of transactions.

Which means that you are responsible for the safekeeping of the security. If you lose a security in bearer form, there is no way to retrieve it. The person who finds it is the proud new owner of your stock. This issue doesn't arise with mutual funds because you don't actually hold units individually.

Secondly, do you need access to the funds immediately? With the sale of mutual funds, you typically can receive cash three days after the transaction date. The wait for funds from the sale of stocks or bonds, however, can be significantly longer. For example, if you want to sell instruments that are in registered form. You have to sign the back of each certificate and send it back to the issuing company before you can receive any cash.

Lastly, how important is the price of purchase or sale to you? If you like to buy stocks, bonds, and mutual funds for the cheapest possible market price. Dealing directly with an issuer may not be for you. When you buy stocks or bonds directly from an issuer, you will typically have to buy them at a price set by the issuer, and sell them back at another set price.

Given all of the above concerns, why would anyone want to buy and sell directly? Unlike brokerages which may require a minimum dollar purchase amount. Businesses typically have few restrictions on the minimum number of units being purchased. Additionally, you don't need to have an account. Which sometimes requires a minimum balance and penalizes long-term investors with inactivity fees.

Banks

Although most banks don't sell stocks, they do offer mutual funds and bonds. Their selection will be limited to funds offered by the bank itself or through its partners. On the plus side, ease. You can simply walk into just about any corner bank and purchase mutual funds or bonds on the spot.

A bank representative should be able to tell you the different characteristics and minimum purchase amounts of the products available.

Person-to-Person

In theory, you can buy and sell securities individually (outside of an exchange). Suppose that a friend has a stock that you would like to buy, or a relative who needs the funds immediately would like to sell you a bond. It can be done, but beware of scams, such as false certificates.

With most stocks and bonds, as the buyer, the other party will have to sign the certificates over to you. If you'd like to sell, you only have to sign the back of the certificates. Which can then be sold to another party. In either scenario, after the security certificates are signed. They must then be sent back to the company, to be re-registered under the name of the new owner.

The Bottom Line

There are many ways to buy and sell securities; each comes with its own advantages, challenges, and risks. Whether you decide to deal with a full-service or discount broker, issuing company, bank, friend, or relative. Make sure that you've done your homework and identified the route that is best for you.