Financial Assets: Definition, Types and Examples

Money is undoubtedly the one of the most valuable fuels in the world. It unlocks its true power in the form of Financial Assets by working for you, growing over time and eventually shaping the global economy. In that context, you can think of these assets as money in motion that drives businesses, investments and economies.

Whether you’re a seasoned investor or just getting started out, understanding the different types of Financial Assets and their uses is the key to smart financial decisions. This blog is here to help you out with that. So read on and learn how they make a powerful impact on everyday wealth!

Table of Contents

1) Understanding Financial Assets

2) How Financial Assets Are Measured?

3) Different Types of Financial Assets

4) Real-world Example of Financial Assets

5) Advantages and Disadvantages of Liquid Financial Assets

6) Advantages and Disadvantages of Illiquid Financial Assets

7) Conclusion

Understanding Financial Assets

A Financial Asset is a liquid asset valued from a contractual right. Unlike property, land or other tangible physical assets, Such assets don't necessarily have inherent physical worth or even a physical form. Their value reflects supply and demand factors in the marketplace in which they trade and the degree of risk they carry.

There are various types of Financial Assets including the following:

1) Cash and Cash Equivalents

2) Stocks (Equity Shares)

3) Bonds and Debentures

4) Mutual Funds

5) Fixed Deposits

6) Derivatives

7) Accounts Receivable

8) Certificates of Deposit

How Financial Assets Are Measured?

The key accounting challenge for Financial Assets is determining how to report their values on the balance sheet. Since Financial Assets vary, no single measurement method applies to all. When investments are relatively small, the current market price serves as a relevant valuation approach. Here are three prominent methods:

1) The Equity Method: This method is used for investments in joint ventures or when a company has significant influence (owning 20%-50% of voting shares). The investment value increases with the company’s earnings and decreases when dividends are paid out. Consider this example to understand this method:

a) January 1, 2024: XYZ Company acquired 10,000 shares of ABC Company, representing 30% ownership, for £100,000.

b) December 31, 2024: ABC Company reported £300,000 in net income.

c) January 1, 2025: ABC declared and paid a £20,000 dividend to XYZ Company.

2) Fair Value Through Profit or Loss (FVPL): This method applies to financial instruments held for sale, not ownership. These assets are recorded at fair value, and the changes impact net income. Transaction costs are immediately expensed.

3) Amortised Cost Method: The amortised cost method applies to debt instruments held until maturity for cash flow collection. Unlike FVPL investments, they are not meant for resale. Any premium or discount is amortised using the effective interest rate method, and transaction costs are capitalised.

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Different Types of Financial Assets

There are numerous types of Financial Assets available in the market for you to choose from. Let's explore them in detail

Cash and Cash Equivalents

These are a company's Financial Assets, including the following:

a) Cash

b) Bank account balances

c) Uncashed customer checks

d) Commercial paper

Equity Stocks

a) Equity shares become Financial Assets when a company invests in another company’s shares.

b) For the issuing company, these shares represent owner’s equity. For the investing company, they are a financial asset.

c) This financial asset grants the investor the right to receive dividends from the issuing company.

Preference Shares

a) Preference shareholders reserve the right to receive dividends at a fixed rate based on their shareholding.

b) These shares are issued by a company and grant investors priority over equity shareholders in dividend payments.

c) In case of company liquidation, preference shareholders receive assets before equity shareholders.

Debentures

a) Debentures are financial instruments that provide holders with interest payments at a fixed rate on specified dates.

b) The invested amount is repaid to debenture holders upon maturity.

c) In case of company liquidation, debenture holders have priority over preference and equity shareholders in claiming the company's assets.

Accounts Receivable

a) When sales are made on credit, the seller has the right to collect payment from the buyer (Debtor).

b) The Debtor is recorded as Accounts Receivable, representing money owed to the seller.

c) These assets establish the right to receive payment for credit sales within the agreed credit period.

d) If payment is delayed, the seller has the right to charge interest, calculated at the agreed rate at the time of sale.

Mutual Funds

a) A mutual fund refers to an investment managed by an Asset Management firm

b) It collects contributions from small investors in exchange for mutual fund units

c) The pooled funds are invested in the stock market, creating a diverse portfolio

d) In The Capital Market, investors earn returns through capital growth, dividends, or interest.

Derivatives

a) Derivatives are financial instruments or contracts between two parties

b) Their value is derived from an underlying asset such as an:

i) Index

ii) Commodity

iii) Stock

iv) Interest rate

v) currency

c) Common types of derivatives include options, futures, and swaps

d) They are widely used for hedging risk, speculation, and portfolio diversification

Insurance Contracts

a) Insurance contracts are a unique type of financial asset providing risk protection.

b) The policyholder pays a premium to the insurance company in exchange for future compensation.

c) Compensation is provided if a business-threatening event occurs.

d) For example, if a policy covers fire damage, the insurer reimburses the policyholder for any losses caused by a fire.

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Real-world Example of Financial Assets

As mentioned above, both businesses and individuals hold Financial Assets. For investment or Asset Management companies, these assets include the funds managed in client portfolios. Here’s a list of real-world examples of Financial Assets to help you understand it better

Cash and its Equivalents

a) Physical currency such as bills and coins

b) Bank deposits such as checking accounts, savings accounts and money market accounts

c) Treasury Bills which are short-term government securities

Marketable Securities

a) Stocks which are shares of ownership in a company

b) Bonds which are debt securities issued by municipalities, corporations or governments

c) Mutual Funds which are pooled investment funds managed by professional managers

d) Exchange-Traded Funds (ETFs) which are investment funds traded on stock exchanges

Derivatives in Practice

a) Options are contracts that give the holder the right to sell or buy an asset at a predetermined price.

b) Futures which are contracts obligating the seller to sell and the buyer to purchase an asset at a predetermined price and future date.

c) Swaps are contracts for exchanging cash flows or other financial instruments between parties.

Loans and Advances

a) Personal loans which are loans granted to individuals

b) Mortgages are loans secured by real estate

c) Business loans which are extended to businesses for numerous purposes

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Insurance Contracts in Finance

a) Life insurance policies that pay out a sum of money upon the insured’s death or after a set period.

b) Health insurance policies that cover medical expenses.

c) Property insurance policies that provide financial reimbursement to a property owner in the event of loss or damage.

Advantages and Disadvantages of Liquid Financial Assets

Here are the benefits and drawbacks of liquid Financial Assets:

Conclusion

Financial Assets are basically the backbone of investing, Wealth Management and business growth. From stocks and bonds to insurance and mutual funds, these assets provide diverse and exciting opportunities for financial success. Having a strong understanding their types and uses can help you and your business make smarter investment decisions.

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