Investment Securities

Investment securities are tradable financial assets purchased primarily for investment purposes. They include equities (common and preferred stock), debt instruments (bonds and debentures), and short-term money-market instruments. Financial institutions—particularly banks—use these securities to generate income, manage liquidity, and satisfy regulatory or pledge requirements.

How banks use investment securities

• Liquidity management: Marketable securities can be converted quickly to cash, supporting day-to-day funding needs.
• Revenue generation: Interest, dividends, and realized capital gains contribute to bank earnings.
• Collateral and pledging: Investment-grade securities are commonly accepted as collateral for government deposits or other pledges.
• Balance-sheet diversification: Securities complement loans in asset portfolios and can reduce concentration risk.
• Regulatory and capital considerations: Securities holdings are subject to regulatory limits and accounting rules; many banks carry certain securities at amortized book value (original cost less amortization to date).

Investment securities are typically acquired via brokers or dealers rather than negotiated directly with borrowers (as loans are). They are governed by Article 8 of the Uniform Commercial Code (UCC) in the United States, and credit ratings help assess their suitability.

Main types of investment securities

Equity stakes

• Common stock and preferred stock — provide ownership and potential dividend income.
• Use considerations: For bank portfolios, equities should generally be relatively stable and provide a margin of safety; speculative holdings (e.g., IPO allocations or very small high‑growth companies) are typically inappropriate as core investment securities.
• Structural variants: Dual-class shares and other structures may carry different voting and dividend rights and should be evaluated for risk.

Debt securities

• Corporate debentures (secured or unsecured) — secured debentures are backed by company assets and are generally safer.
• Government and agency debt — Treasury bills, notes, and bonds; agency securities.
• Municipal bonds — issued by state, county, or local governments.
• Investment-grade focus: Banks generally prefer investment-grade debt to meet safety, liquidity, and collateral requirements.

Money-market securities

Short-term instruments used for quick liquidity:
* Commercial paper
Negotiable certificates of deposit (CDs)
Repurchase agreements (repos)
Bankers’ acceptances
Federal funds

Derivative and structured securities

• Mortgage-backed securities and other structured products can offer higher yields but carry additional credit, prepayment, and liquidity risks. These are often treated cautiously or avoided in core bank investment portfolios.

Risks and regulatory considerations

• Credit risk: The potential for issuer default—mitigated by choosing investment-grade issues.
• Market and interest-rate risk: Price volatility as rates and market conditions change.
• Liquidity risk: Not all securities can be sold quickly without price concessions.
• Concentration and capital limits: Regulatory rules may cap exposure to certain security types or issuer categories (for example, some regimes limit particular classes of securities to a small percentage of a bank’s capital and surplus).
• Accounting treatment: Many marketable securities on bank balance sheets are carried at amortized book value or marked to market depending on classification.

Key takeaways

• Investment securities are tradable assets—equities, debt, and money-market instruments—held to earn income, provide liquidity, and serve as collateral.
• Banks use securities to diversify assets, manage liquidity, and meet regulatory and pledge requirements.
• Preference is typically given to investment-grade debt and conservative equities; structured and derivative securities carry higher risk.
• Holdings are subject to accounting rules, regulatory limits, and governance under Article 8 of the UCC.