Consider the following:
- Exchange-Traded Funds (ETF)
- Motor vehicles
- Currency swap
Which of the above is/are considered financial instruments?
- 1 only
- 2 and 3 only
- 1, 2 and 3
- 1 and 3 only
Explanation
Exchange-Traded Funds (ETFs) are correct
- ETFs are financial instruments. It is called an exchange-traded fund because it’s traded on a stock exchange, like stocks, but holds multiple underlying assets rather than a single stock. Like mutual funds, an ETF pools money from investors and channels it into a basket of stocks, mirroring an index and its performance. Unlike mutual funds, an ETF trades like a common stock on a stock exchange, and its price fluctuates throughout the day. The trading value of ETF depends on the Net Asset Value (NAV) of the underlying stock it represents.
Motor vehicles are incorrect
- Motor vehicles are tangible physical assets, not financial instruments. They are used for transport, not for capital transfer or financial contracts.
Currency swaps are correct
- Currency swaps are derivative financial instruments. In a currency swap, counterparties exchange equivalent amounts of two different currencies and trade back at a later specified date. Swaps can be used to hedge against exchange-rate risk, speculate on currency moves, and borrow foreign exchange at lower interest rates.
