Generic Securities: Definition, Risks, and Investment Strategies

In the world of finance, generic securities are a relatively new breed of investment options. This article explores what generic securities are, how they work, their benefits and drawbacks, and common examples in the financial market.

A generic security is a new security that is less than one year old and is typically backed by recently issued loans or mortgages. These securities lack an established trading history, making them riskier but potentially more rewarding for investors willing to take on higher levels of risk.

Generic securities are akin to newcomers in the financial market. They do not have a trading history that investors can reference to assess their past performance, unlike seasoned securities. Key metrics such as liquidity, volatility, and trading volume are not yet established for generic securities, making them less predictable and riskier investments.

Investing in generic securities can be appealing to some investors due to their lower cost compared to established securities. However, the underlying loans or mortgages backing these securities are often too new to be considered stable, leading to higher rates of default during the initial period. As time passes and payments on these debts remain current, generic securities transition into seasoned securities, gaining stability and confidence from investors.

One of the most common types of generic securities is the mortgage-backed security (MBS). MBSs are backed by a pool of mortgages, either residential or commercial, and are packaged into securities for investors. These securities are offered in tranches, with different risk levels and income streams associated with each tranche. While MBSs offer investment opportunities, their specific qualities, such as default rates, may not be fully known until after the first year of issuance.

Yes, a mortgage-backed security (MBS) is a derivative, as its value is derived from underlying assets, which are mortgage loans.

An initial public offering (IPO) is when a private company goes public by offering shares to the public for the first time, while a seasoned offering is when a public company issues additional shares after completing an IPO to raise more capital.

Seasoning refers to loans or mortgages that have been issued for more than a year. It helps determine the loan’s market value and ease of refinancing or selling.

Typically, investors must wait for a certain period, known as the lock-up period, before selling IPO shares received before the IPO listing day.