Financial instrument is a broadly used term to refer to almost any obligation of one party to give financial ASSETS to another. There are three types of financial instruments, the first of which is cash. The second type is any agreement that is settled only with the payment of a financial instrument (usually cash); this would make LOANS, BONDS, notes, derivatives, and receivables all financial instruments. The third type of financial instrument is EQUITY securities, which represent ownership in a company; this makes COMMON STOCK and preferred stock in a company financial instruments. Equity securities give owners residual rights (remaining assets after all liabilities have been satisfied) in the company and the right to share the company’s PROFITs. CONTRACTs between two parties that are not settled with financial instruments (including cash) are not themselves financial instruments. For example, contracts to buy a piece of real estate, equipment, or inventory or to deliver services are not financial instruments. Many financial instruments are negotiable. There are dozens of types of negotiable financial instruments, and more are created every day as others pass off the scene. Some of the more common type of NEGOTIABLE INSTRUMENTS would be COMMERCIAL PAPER, bonds, corporate debt securities, banker acceptances, treasury bills, repurchase agreements, and some PROMISSORY NOTEs. These financial instruments are created in a primary market and traded in a secondary market. The primary market consists of INVESTMENT banks that enter into the agreements with the issuing companies and then sell a portion of the negotiable instruments to other investors who are free to trade the instruments with others; this is the secondary market. Thus an investment bank may buy all the new stock issued by a company and then sell it to investors. When these investors then sell, these are secondary-market transactions.
See also U.S. TREASURY SECURITIES.