What Are Marketable Securities?
Marketable securities are liquid financial instruments that can be quickly and easily bought or sold on a public exchange. They are considered short-term assets for a company or an individual because of their high liquidity and ease of conversion into cash. Belonging to the broader category of investment instruments, marketable securities are typically held for a short period, often less than a year, with the primary aim of generating quick returns or as a temporary store of value. These securities are a critical component of healthy capital markets, allowing for efficient allocation of funds and providing investors with readily accessible assets.
History and Origin
The concept of tradable financial instruments, which forms the basis of marketable securities, has roots dating back centuries to early forms of bonds and stocks. However, the modern framework for what defines marketable securities largely evolved with the formalization of securities markets and financial regulation. A significant historical juncture that shaped the regulation and perception of marketable securities in the United States was the period following the Great Depression. The Banking Act of 1933, commonly known as the Glass-Steagall Act, was enacted to prevent speculative abuses and restore confidence in the banking system. This legislation effectively separated commercial banking from investment banking, restricting commercial banks from dealing in non-governmental securities for customers or investing in non-investment-grade securities for themselves.5,4 This act underscored the importance of transparent and regulated markets for marketable securities, aiming to protect depositors from the risks associated with volatile asset trading.
Key Takeaways
- Marketable securities are highly liquid financial instruments easily convertible to cash.
- They include a wide range of assets like Treasury Bills, Treasury Notes, Treasury Bonds, and certain corporate stocks and bonds.
- These investments are typically short-term in nature, held to generate quick returns or as a temporary use of excess cash.
- Marketable securities are a key component of a robust financial system, facilitating capital flow and providing investment flexibility.
Formula and Calculation
While there isn't a single universal formula for "marketable securities" as a whole, the valuation of individual marketable securities involves specific calculations. For fixed-income marketable securities like bonds, the present value of future cash flows (coupon payments and principal) is calculated. For equity marketable securities like stocks, various valuation models exist, such as the Dividend Discount Model or discounted cash flow (DCF) analysis.
For a simple example of a short-term, zero-coupon marketable security like a Treasury Bill, the yield can be calculated as:
Where:
- Face Value = The par value of the security paid at maturity.
- Purchase Price = The price at which the security was bought.
- Days to Maturity = The number of days remaining until the security matures.
This calculation helps investors understand the short-term return on their investment in such highly liquid assets. The interest rate environment significantly influences the yield of these instruments.
Interpreting Marketable Securities
Interpreting marketable securities involves understanding their role within a portfolio and their characteristics. Because marketable securities are highly liquid, they are often considered near-cash assets. For companies, holding marketable securities indicates sound short-term financial management, as it means they have readily available funds for operational needs or unexpected expenditures without disrupting long-term investments.
Investors often use marketable securities for capital preservation and short-term growth. For instance, in a rising interest rate environment, short-term marketable securities may be favored over longer-term investments to avoid significant price fluctuations. Conversely, in a declining interest rate environment, investors might seek longer-duration marketable securities to lock in higher yields. The choice and interpretation depend heavily on market conditions and the investor's specific financial objectives and risk management strategies.
Hypothetical Example
Consider a technology company, "InnovateTech Inc.," that recently received a large payment from a client. InnovateTech anticipates needing these funds in approximately six months for a new product launch and to cover quarterly operating expenses. Rather than letting the cash sit idle in a low-interest checking account, the company's treasurer decides to invest a portion of it in marketable securities.
They purchase a U.S. Treasury Bill with a 6-month maturity. The Treasury Bill has a face value of $1,000,000 and is purchased at a discount for $985,000.
After six months, at maturity, InnovateTech receives the full $1,000,000 face value. This yields a $15,000 profit for the company. The highly liquid nature of the Treasury Bill ensured the funds were accessible precisely when needed, without any difficulty in selling or a significant risk of principal loss, making it an ideal short-term investment for InnovateTech's operational needs.
Practical Applications
Marketable securities appear in various facets of the financial world:
- Corporate Cash Management: Businesses frequently invest excess cash in marketable securities like commercial paper or short-term government bonds to earn returns while maintaining liquidity for operational needs or future projects.
- Fund Management: Money Market funds, which are a type of mutual fund, predominantly invest in highly liquid, short-term marketable securities such as Treasury bills, certificates of deposit, and commercial paper.
- Government Finance: Governments issue marketable securities, primarily Treasury Bonds, notes, and bills, to finance their operations and manage national debt. These are among the most actively traded marketable securities globally, as detailed by TreasuryDirect.3
- Investment Portfolios: Individual investors and institutions use marketable securities as a low-default risk component of their portfolios, often for defensive positioning or as a staging ground for future, longer-term investments.
- Regulatory Oversight: Financial regulators, such as the Securities and Exchange Commission (SEC), oversee the issuance and trading of marketable securities to ensure fair and orderly markets. The SEC Historical Society provides extensive resources on the evolution of securities regulation, highlighting the importance of transparency and investor protection in these markets.2
Limitations and Criticisms
Despite their advantages, marketable securities have limitations. Their primary drawback is the relatively low return compared to less liquid or higher-risk investments. Because they are designed for safety and liquidity, the potential for capital appreciation is often limited.
Furthermore, even highly liquid marketable securities are not entirely immune to market volatility or systemic risk. The 2008 financial crisis demonstrated that even money market funds, generally considered very safe and investing in highly marketable instruments, could face severe stress. The Reserve Primary Fund "broke the buck" in September 2008, meaning its net asset value (NAV) fell below $1 per share, due to its holdings in Lehman Brothers' commercial paper.1, This event triggered widespread concerns about the stability of money market funds and led to significant withdrawals by investors, highlighting that while designed for safety, no investment is entirely without risk. Such incidents underscore the importance of ongoing diversification and due diligence, even with highly marketable assets.
Marketable Securities vs. Non-Marketable Securities
The key distinction between marketable securities and non-marketable securities lies in their transferability and liquidity.
| Feature | Marketable Securities | Non-Marketable Securities |
|---|---|---|
| Transferability | Can be easily bought, sold, or transferred on public exchanges or through brokers. | Cannot be readily sold or transferred; typically held to maturity by the original owner. |
| Liquidity | Highly liquid; convertible to cash quickly with minimal impact on price. | Illiquid; generally cannot be converted to cash before maturity without penalty or specific conditions. |
| Examples | Publicly traded stocks, corporate bonds, Treasury Bills, Notes, and Bonds, Exchange-Traded Funds (ETFs). | U.S. Savings Bonds (e.g., Series EE, Series I), Certificates of Deposit (CDs) held directly from a bank, non-transferable annuities. |
| Purpose | Often held for short-term gains, cash management, or as a temporary store of value. | Typically held for long-term savings goals, specific government programs, or as a fixed-income component that isn't intended for trading. |
Confusion often arises because both categories represent investments. However, the ability to sell an investment at its market price at any given time is the defining characteristic of a marketable security.
FAQs
What makes a security "marketable"?
A security is "marketable" due to its high liquidity and the existence of an active trading market. This allows investors to buy or sell the security quickly at a price close to its current market value, without significantly impacting that price. Factors contributing to marketability include issuer creditworthiness, a large pool of buyers and sellers, and standardized terms.
Are stocks and bonds always marketable securities?
Generally, yes. Most stocks traded on major exchanges and corporate or government bonds are considered marketable securities because they can be easily bought and sold. However, some private company stocks or specific types of bonds with very limited trading activity might not be considered highly marketable.
Why do companies hold marketable securities?
Companies hold marketable securities primarily for cash management. Instead of letting idle cash sit in a bank account earning minimal interest, they invest in marketable securities to earn a higher return while ensuring the funds remain readily available for short-term operational needs, unexpected expenses, or planned expenditures like capital investments or dividend payments.
What are some common types of marketable securities?
Common types include U.S. Treasury securities (such as Treasury Bills, Notes, and Bonds), highly rated corporate commercial paper, certificates of deposit (CDs) issued by banks that are transferable, and shares of publicly traded companies (stocks) that are actively traded on major exchanges.