What are the Financial Instruments Traded on the Stock Market?

Simply put, investing in the stock market involves the exchange of financial instruments. This exchange is continuous and ongoing. Prices fluctuate every day and people walk away with gains and losses every day. Some people complete their buying and selling on the same day - they do not hold any financial instruments and are referred to as day traders or intraday traders. Others trade for the long term and hold financial instruments. Whatever your choice, understanding the fundamentals of the financial instruments traded, is key.

What is a financial instrument?

Let us take off from the start line. A financial instrument is defined as a document that indicates an asset to one individual (this person is owed) and a liability (this person owes) to another individual. Not all financial instruments are traded on the stock market. For instance, cheques too count as financial instruments.

The financial instruments that are specifically traded on the stock market are shares/ stocks, derivatives, bonds and mutual funds (yes that is why the subtext says "mutual funds are subject to market risks").

Shares/ stocks

When you buy stocks (which consist of shares), you buy them with the intention of selling these at a profit, thereby earning a return on your investment.

The difference between the buy and sell price is the stock market version of the interest earned on more traditional forms of investment such as fixed deposits.

Share prices fluctuate constantly. This is known as volatility. It is this fluctuation, or volatility, that makes profits possible in stock market trading. If utilised in the right manner, volatility can prove to be beneficial to traders. In fact, look for a reasonable amount of volatility when trading. Besides volatility, stock volumes, or the amount of shares that are being put on the market, are an important factor to watch for when trading in stocks. It is advisable to buy stocks whose shares are being sold in large volumes.

When trading, look for a financial partner who lets you open both trading and demat accounts in one place, such as IIFL.

Derivatives

Derivatives involve making a contract to buy or sell commodities on a specific date at a specific rate. Derivatives are also commonly referred to as F&O stocks or Futures and Options stocks. A Futures contract entails the right and obligation to buy or sell a certain amount, by a predetermined date at a specified rate. An Options contract is similar, but there is no obligation.

This is a slightly more complex area of trading. It is recommended that you begin trading in derivatives only once you’ve familiar with the workings of the market. If you do choose to trade in derivatives you must keep an eye on Open Interest, i.e. the number of contracts being held. If people are dumping contracts, Open Interest is low, meaning lower buy-in rates and if people are buying contracts then Open Interest is high, thereby meaning higher buy-in rates.

Bonds

Bonds are one of the safer ways to invest in the stock market, because they assure a certain rate of interest by a certain date. The interest may fluctuate but will not dip below the rate of interest mentioned when they are issued on the stock market. However, bonds also may not display the kind of profits seen in stock trading and derivatives.

Mutual Funds

A mutual fund refers to the mutual (in other words you and everyone else who invested in the fund) trade of financial instruments on the stock market. Because it calls for many different investors pooling their resources and investing in a variety of different stocks for instance, the risk is much lower than individuals trading in stock themselves. Mutual funds are one of the most popular methods used by Indians when it comes to investing in the stock market.

Conclusion

Now that you know the ins and outs of the financial instruments traded on the stock market, you can set out to trade with gusto. You don’t have to limit yourself to one financial instrument; you could scale up your profits by trading other financial instruments as well.

All you need to succeed in the financial market is the 3 Rs: the right attitude, a little research and a reliable partner. Read up on the basics of stock markets to check for both research and work hard on cultivating the right attitude. As for a reliable partner, you can trade with relative ease using IIFL’s trading-cum-Demat account. Access to the industry’s leading trading platforms, a slew of market experts and optimum flexibility is what makes IIFL one of the most popular trading accounts in India!

Open Demat Account at IIFL