What are securities?
Securities are documents that establish the existence of a specific property right. They can be traded on the stock market, and can also be sold, that is, transferred to third parties or individuals.
Important!
Securities, although an important element of the financial market, are not defined in Polish law by a general definition. Regulations governing securities can be found in several legal acts, and the above definition is based on them.
The term “securities” occurs:
- in the Act of April 23, 1964 of the Civil Code (hereinafter “Civil Code” or “CC”),
- in the Act of July 29, 2005 on Trading in Financial Instruments (hereinafter the “Act on Trading in Financial Instruments”),
- In the Law of July 27, 2002. Foreign Exchange Law (hereinafter “Foreign Exchange Law”).
Art. 9216 of the Civil Code states that if an obligation arises from an issued security, the debtor is obligated to perform against the return of the document or to make it available to the debtor in order to deprive the document of its legal force. This means that without possession of the document, the exercise of the right indicated therein is not possible.
Dr. hab. Malgorzata Rivinska-Kráľ in the article The scope of the term “securities” in light of the current legislationwrites: “securities document certain rights of the holder (owner) and obligations of their debtor (issuer). Thus, each security constitutes an agreement (contract) between two parties: the issuer and the holder. A security therefore meets the definition of a financial instrument.”
Functions of securities in the capital market
Issuers issue and investors buy securities for specific, though not always certain, benefits. In this way, they realize securities perform specific functions:
- Confirmation of property rights – securities confirm (prove) the existence of certain property rights or obligations and give the right to enforce them.
- Raising capital – an entity that decides to issue securities does so most often because it hopes to raise needed capital this way. Thanks to investors, the entity receives funds to carry out its activities.
- Investing – investors make deposits of capital in various types of financial instruments – always with the intention of recouping it in the future with more than enough money.
- Risk transfer – both investors and issuing entities can plan investments and manage liabilities during the life of the securities.
- Supporting liquidity – thanks to the marketability of securities, it is possible to quickly convert the documents held into cash, thereby improving the liquidity of the entity.
Classification of securities
Depending on the criteria adopted, we can divide securities in different ways.
Division by legal function
This is the most commonly discussed classification. In it we distinguish:
- Creditor securities (bills of exchange, bonds, checks),
- Equity securities (shares, investment certificates),
- Commodity securities (bills of lading, contribution slips).
Division by period of validity
When it is important to determine the term of execution of securities, we use the following division:
- short-term – when the period of implementation of a document is less than 12 months,
- long-term – if the implementation period is longer than 12 months.
Division by function
Depending on the function that the documents perform, we can classify them as:
- Payment and settlement documents (bills of exchange, checks),
- loan documents (bonds),
- Property co-ownership documents (shares).
Division due to the way of dealing with trading
Since securities are traded items, it is often crucial to determine the entity or person authorized to trade them. In such situations, the following division is adopted:
- Registered securities – if the document indicates a specific person entitled to trade (see Article 9218 of the Civil Code),
- bearer papers – if the person entitled to trade is the holder of the document.
Division by balance sheet law
- Equity securities – are elements of equity, and also present the holder’s right to the net assets of the issuer (and thus determine the holder’s interest),
- Debt securities – are elements of obligations, confirm the holder’s granting of credit to issuers.
Breakdown by source of origin
The last classification indicates where the security comes from:
- proprietary documents – in case the paper was issued by the economic entity that holds it,
- foreign documents – when the paper was issued by another business entity.
What are the types of securities?
The most common types of securities are stocks, bonds and investment certificates. However, this is not the end of the list.
Shares
Shares confirm the holder’s right to participate in the share capital of a joint-stock company. Shares can be assigned to a specific person (in which case we speak of registered shares) or issued to bearer.
With the acquisition of shares, shareholders acquire specific rights:
- The right to dividends,
- The right to vote at the general meeting,
- Pre-emptive right to purchase new shares,
- The right to share in the company’s assets in the event of liquidation.
Bonds
The second equally important document for the securities market is bonds. These are debt securities that are issued by:
- State (we then speak of government bonds),
- local government units,
- enterprises.
Persons or entities taking possession of the bonds acquire the claim, while their issuers become debtors. It is the issuer’s responsibility to return the face value of the bonds issued, plus interest, within the timeframe to which it has committed itself.
Bonds issued by the government are among the safest forms of investment. Corporate bonds carry a higher level of risk, in exchange for offering more attractive interest rates to investors.
Investment certificates
When a closed-end investment fund issues its own securities, they are called investment certificates. These documents are indivisible, and are issued in bearer form. Investment certificates represent equal property rights.
Depository receipts
Also known as certificates of deposit, these securities state the fact that money has been deposited with a bank (or other financial institution) for a specified period of time and at a specified interest rate. They are usually issued to bearer.
Checks
A simple type of security, whereby the issuer directs the bank to withdraw funds from his own account. A check can be registered or issued to bearer.
Subscription rights and rights to shares
Financial instruments that enable investors:
- Purchase of shares when the company issues new securities (subscription rights),
- Confirmation of the right to receive securities from the new issue (right to shares).
Subscription warrants
Like subscription rights, warrants entitle owners to purchase shares from a new issue. However, the warrant also allows the purchase of bonds, and moreover guarantees a preferential price.
The issuer of the warrant is a company that plans to issue shares in the future.
Other popular types of securities include mortgage bonds, treasury bills and mortgage notes.
How to buy securities?
The purchase of securities itself is not complicated, but several steps must be followed first:
- Opening a brokerage (investment) account – investments should begin with the opening of the appropriate account – either at the headquarters of the brokerage institution or online.
- Market analysis – at this stage you should determine your investment goals and level of knowledge – knowledge-checking questionnaires, available in apps and on brokerage websites, can be helpful in this regard.
- The choice of investment instruments – this is a key step that should reflect the investor’s goals and long-term strategy. It is also worth taking into account the level of risk. This one is often determined on a seven-point SRI scale, adopted by most financial institutions.
- Funding your investment account – “topping up” your account with funds and transferring them to the investment fund of your choice (or several) is the final step in the process. During the first investments, you will also need to confirm your identity.
How does the stock market work?
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The primary goal of the WSE is to ensure liquidity, transparency and security of transactions conducted on the capital market.
It is on the Warsaw Stock Exchange that transactions are carried out, and brokerage houses (investment firms) mediate them. When you invest in securities in a brokerage account, you make a profit (or record a loss) from the transactions carried out by the brokers – although you do not directly participate in them.
What are the benefits of investing in securities?
- The ability to invest online – securities is now a common name. Although those issued in traditional form are still an important part of the market, developments in technology have made it possible to issue and purchase securities in digital form. This makes investing simpler, faster and more accessible.
- Available forms of collateral – prudent investors have at their disposal forms of collateral that significantly reduce the risk of losing money on investments undertaken.
- High liquidity – responding to change often proves crucial. Whether it’s temporary difficulties for a company or a changing political or economic situation – thanks to the high liquidity inherent in securities, investors can respond to these changes by quickly liquidating documents.
- High accessibility – investing in securities is not an activity reserved for the wealthy. Thanks to the fact that there are a wide variety of instruments on the market, investing has become accessible to people with different portfolio wealth and knowledge levels.
What are the risks of investing in securities?
Risk factors in the context of investing are many. Among the most commonly cited are:
- Market changes – a variable that is impossible to predict. Rates (especially of stocks) can fluctuate wildly from day to day, and sometimes promising instruments that record steady increases can score massive declines, leading to losses.
- Exchange rate fluctuations – investors, placing their funds in foreign securities, must reckon with the risks associated with changes in exchange rates. Of course, this risk also applies to securities issued in PLN.
- Insolvency of the issuing entity – there is always a risk that the issuer will turn out to be insolvent. Even investing in seemingly safe instruments (such as corporate bonds) carries a real risk of losing funds.
How to reduce the risk of investing?
Let’s start with the most important one: it is impossible to eliminate the risks associated with investments. However, there are several ways to understand the risks and learn to make responsible and reasonable decisions in the capital market.
- Gaining knowledge – attending courses and training, reading guides and market analysis. These are all activities that can help investors better understand the capital market.
- Diversification of the investment portfolio – placing all the money allocated for investment in one financial instrument can prove to be a powerful success, but it is also subject to the greatest possible risk. A popular way to reduce risk is to invest in different types of securities (stocks, bonds), in different industries, in instruments with different levels of risk and concerning different regions.
- Analysis of markets – getting an idea of the current situation in the markets will certainly help investors make the right decisions. However, ongoing analysis is a time-consuming activity that requires knowledge and commitment, which is why many investors choose to use the services of mutual funds that provide analysis and present investment opportunities to their clients. Still, the risk of the decisions made is entirely on the investor’s side.
Summary
Securities are one of the most important elements of the capital market. They are used by companies (raising capital this way) and by individual investors (investing savings and hoping to increase them). Among the most popular securities are stocks and bonds.
Investing in securities invariably involves risk. It is important to pay special attention to this, especially today, when the availability of many financial instruments and the technology that allows online investing have significantly lowered the entry threshold. When planning your investments, be sure to regularly gain knowledge, diversify your investment portfolio and act in accordance with your goals and strategy.
Frequently asked questions
What are securities?
What are the types of securities?
How can you buy securities?
This article is for informational purposes only and does not constitute legal, tax, investment or financial advice. The content presented should not be considered as a guideline for making decisions related to finance, investment or other business issues. Any such decision should be consulted with a specialist – an investment advisor, tax advisor or lawyer. The editors of PragmaGO are not responsible for any consequences resulting from the use of information contained on the site without prior consultation with an expert.
