Financial instruments are monetary
contracts
A contract is an agreement that specifies certain legally enforceable rights and obligations pertaining to two or more parties. A contract typically involves consent to transfer of goods, services, money, or promise to transfer any of thos ...
between parties. They can be created, traded, modified and settled. They can be cash (currency), evidence of an ownership, interest in an entity or a contractual right to receive or deliver in the form of
currency
A currency is a standardization of money in any form, in use or circulation as a medium of exchange, for example banknotes and coins. A more general definition is that a currency is a ''system of money'' in common use within a specific envi ...
(forex); debt (
bonds,
loan
In finance, a loan is the tender of money by one party to another with an agreement to pay it back. The recipient, or borrower, incurs a debt and is usually required to pay interest for the use of the money.
The document evidencing the deb ...
s);
equity (
shares
In financial markets, a share (sometimes referred to as stock or equity) is a unit of equity ownership in the capital stock of a corporation. It can refer to units of mutual funds, limited partnerships, and real estate investment trusts. Sha ...
); or
derivatives (
options,
futures,
forwards).
International Accounting Standards IAS 32 and
39 define a financial instrument as "any contract that gives rise to a
financial asset
A financial asset is a non-physical asset whose value is derived from a contractual claim, such as deposit (finance), bank deposits, bond (finance), bonds, and participations in companies' share capital. Financial assets are usually more market li ...
of one entity and a financial
liability or equity instrument of another entity".
Financial instruments may be categorized by "
asset class" depending on whether they are foreign exchange-based (reflecting foreign exchange instruments and transactions), equity-based (reflecting
ownership
Ownership is the state or fact of legal possession and control over property, which may be any asset, tangible or intangible. Ownership can involve multiple rights, collectively referred to as '' title'', which may be separated and held by dif ...
of the issuing entity) or debt-based (reflecting a loan the investor has made to the issuing entity). If the instrument is debt it can be further categorized into short-term (less than one year) or long-term.
Types
Financial instruments can be either cash instruments or derivative instruments:
* Cash instruments – instruments whose value is determined directly by the
markets. They can be
securities
A security is a tradable financial asset. The term commonly refers to any form of financial instrument, but its legal definition varies by jurisdiction. In some countries and languages people commonly use the term "security" to refer to any for ...
, which are readily transferable, and instruments such as
loans and
deposits, where both borrower and lender have to agree on a transfer.
*
Derivative instruments – instruments which derive their value from the value and characteristics of one or more underlying entities such as an
asset
In financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is anything (tangible or intangible) that can be used to produce positive economic value. Assets represent value of ownership that can b ...
,
index
Index (: indexes or indices) may refer to:
Arts, entertainment, and media Fictional entities
* Index (''A Certain Magical Index''), a character in the light novel series ''A Certain Magical Index''
* The Index, an item on the Halo Array in the ...
, or
interest rate
An interest rate is the amount of interest due per period, as a proportion of the amount lent, deposited, or borrowed (called the principal sum). The total interest on an amount lent or borrowed depends on the principal sum, the interest rate, ...
. They can be
exchange-traded derivatives and
over-the-counter (OTC) derivatives.
Understanding Derivatives
. Federal Reserve Bank of Chicago. Accessed August 2, 2015. Some of the more common derivatives include forwards, futures, options, swaps, and variations of these such as synthetic collateralized debt obligation
A collateralized debt obligation (CDO) is a type of structured finance, structured asset-backed security (ABS). Originally developed as instruments for the corporate debt markets, after 2002 CDOs became vehicles for refinancing Mortgage-backed se ...
s and credit default swaps.
Some instruments defy categorization into the above matrix, for example repurchase agreement
A repurchase agreement, also known as a repo, RP, or sale and repurchase agreement, is a form of secured short-term borrowing, usually, though not always using government securities as collateral. A contracting party sells a security to a lend ...
s.
Measuring gain or loss
The gain or loss on a financial instrument is as follows:
See also
* Off-balance-sheet
In accounting, "off-balance-sheet" (OBS), or incognito leverage, usually describes an asset, debt, or financing activity not on the company's balance sheet. Total return swaps are an example of an off-balance-sheet item.
Some companies may have ...
issues
* IFRS 9 – Accounting standard titled "Financial Instruments"
*
References
External links
IFRS List – The online community about IFRS/IAS and Auditing
Understanding Derivatives: Markets and Infrastructure
Federal Reserve Bank of Chicago, Financial Markets Group
Why the Stock Market is better than having your money in the bank…
{{DEFAULTSORT:Financial Instrument
Financial markets
Asset
Derivatives (finance)