Trading Securities in Balance Sheet

What is Trading Securities?

In simple terms, trading securities in balance sheet are the short term bets for management to earn a few bucks in a short while.

For example of trading securities, let’s say that the management of a company invests a certain amount of money in debt or equity (meaning in a particular bond or a stock) for a short period of time. The purpose of doing this is to buy and sell that particular bond or the stock within a short while to make money.

As we note from Starbucks SEC Filings, Trading securities include equity mutual funds and exchange-traded funds.

There are three classifications of securities as per accounting – trading securities, securities that are held to maturity, and available for sale securities.

We will understand more about the securities that are trading in detail.

Understand Trading Securities in Detail

Trading securities in balance sheet are the fastest moving securities among all three.

The reason these securities are the fastest moving is that these securities are traded regularly (even on a daily basis) in the open market. And these securities are managed directly by the management of the company to see whether these securities can bring in more profits for the current period or not.

As per accounting system, trading securities are placed in the balance sheet of a company at a fair value. It is done so that the economic benefit (or loss) can be shown on the financial statements of a company during that period.

Since the company will most probably sell off the investments, these investments are considered as the current assets of the company for the period.

The market value of the securities changes every day. That’s why it’s important that the securities should be shown at the fair value.

But the question remains what we would do till the time the investments are not sold? The treatment for this is to create a temporary account to which we can transfer the unrealized gain or loss. And whenever the selling is done, we can write off the temporary account and transfer the amount to the income statement.

Trading Securities Journal Entries Examples

Let’s understand with a practical example of trading securities journal entries.

• United Co. has kept aside $100,000 for short-term investment purposes. This amount won’t be used for any operational purpose or working capital. This money would purely be used for making a quick gain on the short-term investment.
• The management of United Co. has seen that Grow & Lead Corporation has been doing extremely well for the last couple of years. And United Co. decided to invest the entire amount into the stocks of the Grow & Lead Corporation. The market price of each stock of Grow & Lead Corporation was $5 per stock.
• In the first year of investment, Grow & Lead Corporation has paid out a cash dividend of $0.50 per share. At the end of the year, the value of shared purchased by United Co. reached $125,000.
• Later in the next year, when the shares were actually sold, the amount received was $120,000.
• How would we report these transactions assuming that the management of United Co. had invested $100,000 for trading securities?
• First of all, we will treat each one transaction separately and would see how each transaction would get reflected in the books of United Co.
• The first transaction was to invest $100,000 in trading securities of Grow & Lead Corporation. At $5 per share, United Co. had bought 20,000 shares. And the following would be the entry in the books of accounts of United Co. –

This journal entry was passed so that we can create a current asset called “Investments in Trading Securities” and record it in the balance sheet of United Co. And cash is credited since United Co. has to let go of the other current asset “Cash” to invest in the securities.

The next transaction would be related to the cash dividend. Since Grow & Lead Corporation has declared a cash dividend of $0.50 per share, here’s the trading securities journal entry for that particular transaction –

We passed this entry to reflect the income received in the income statement. We have debited cash account because United Co. has been receiving cash in the form of the dividend. If the asset increases, we debit the asset. At the same time, we have credited divided revenue because when income increases, we credit the account. And the same dividend revenue can be reflected in the income statement of the books of accounts of United Co.

Finally, the major transaction of the above example of trading securities is the fair value at which the value of shares was recorded at the end of the year.

According to that, United Co. had gained $(125,000 – $100,000) = $25,000 as unrealized gain. Since the money is not actually received, we will record the following journal entry in the books of United Co. –

The next year, United Co. was able to sell the shares and gained $120,000 from the sale. Meaning the actual profit was $(120,000 – 100,000) = $20,000.

But in the previous year’s balance sheet, United Co. had shown $25,000 as the unrealized gain. So, here’s the final entry we need to pass for making things right –

By doing this, United Co. has made things right. The real gain was $20,000 and by passing the last entry the investment in trading securities got closed and United Co. had got a profit of $20,000.

Conclusion

From the above discussion, it’s clear that how a company can use a certain amount of money for short-term investments and can gain a lump sum amount at the end of the period.

Two things are most important here –

• First, at the end of the year, the balance sheet should reflect the fair value of the stocks or the bonds in which the amount is being invested.
• Second, the reverse entry to effect the unrealized gain or loss.

Recommended Articles

This has been a guide to what is Trading Securities? Here we discuss why trading securities are reported at fair value on the balance sheet along with examples and journal entries. You may learn more about accounting from the following articles –

• Treasury Shares
• What is Owners Equity?
• Weighted Average Shares Outstanding
• Outstanding Shares