CHAPTER 7
FINANCIAL MARKETS
CONCEPT OF FINANCIAL MARKETS
• A business is a part of an economic system that consists of two main sectors – households
which save funds and business firms which invest these funds. A financial market helps to
link the savers and the investors by mobilizing funds between them.
• There are two major alternative mechanisms through which allocation of funds can be
done: via banks or via financial markets. Households can deposit their surplus funds with
banks, who in turn could lend these funds to business firms.
FUNCTION OF FINANCIAL MARKET
1. Mobilisation of saving and channeling them into the most productive uses
2. Facilitating price discovery
3. Providing liquidity to financial asset
4. Reducing the cost of transaction
MONEY MARKET
• Money Market: is a market for short term funds which deals in monetary assets whose period
of maturity is upto one year. These assets are close substitutes for money. It is a market where
low risk, unsecured and short term debt instruments that are highly liquid are issued and
actively traded everyday. It has no physical location, but is an activity conducted over the
telephone and through the internet
• Classification of financial market
MONEY MARKET INSTRUMENTS
1. Treasury bills: A Treasury bills is basically an instrument of short-term borrowing by government of india
maturing in less than one year.
2. Commercial Paper: Commercial paper is a short-term unsecured promissory note, negotiable and transferable
by endorsement and delivery with a fixed maturity period
3. Call Money: Call money is short term finance repayable on demand, with a maturity period of one day to fifteen
days, used for inter-bank transactions
4. Certificates Of Deposit (CD) are unsecured, negotiable, short-term instruments in bearer form, issued by
commercial banks and development financial institutions. They can be issued to individuals
5. Commercial Bill: is a bill of exchange used to finance the working capital requirements of business firms. It is
a short-term, negotiable,
CAPITAL MARKET
• The term capital market refers to facilities and institutional arrangements through which
long-term funds, both debt and equity are raised and invested.
• . It directs these savings into their most productive use leading to growth and development
of the economy. The capital market consists of development banks, commercial banks and
stock exchanges.
• The Capital Market can be divided into two parts:
a) Primary market
b) Secondary market
A COMPARISON OF PRIMARY AND SECONDARY
MARKET
DISTINCTION BETWEEN CAPITAL MARKET AND
SECONDARY MARKET
Capital market Money market
1. participants The participants in the capital market are Participation in the money market is
financial institutions, banks, corporate entities, by and large undertaken by
foreign investors and ordinary retail investors institutional participants such as the
from members of the public RBI, banks, financial institutions and
finance companies.
2. Insrtuments The main instruments traded in the capital The main instruments traded in the
market are – equity shares, debentures, bonds, money market are short term debt
preference shares etc instruments such as T-bills, trade bills
reports, commercial paper and
certificates of deposit.
3. Duration The capital market deals in medium and long Money market instruments have a
term securities such as equity shares and maximum tenure of one year, and may
debentures. even be issued for a single day
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Capital market Money market 4.
4. Liquidity Capital market securities are considered Money market enjoy a higher degree
liquid investments because they are of liquidity as there is formal
marketable on the stock exchanges arrangement for this
5. Safety Capital market instruments are riskier both Money market is generally much
with respect to returns and principal safer with a minimum risk of default.
repayment This is due to the shorter duration of
investing
6. Expected return The investment in capital markets Lower than capital market
generally yield a higher return for investors
than the money markets
STOCK EXCHANGE
• A stock exchange is an institution which provides a platform for buying and selling of existing securities. As a market,
the stock exchange facilitates the exchange of a security (share, debenture etc.) into money and vice versa. Stock
exchanges help companies raise finance, provide liquidity and safety of investment to the investors and enhance the
credit worthiness of individual companies.
• Functions of stock exchange
1. Providing Liquidity and Market- ability to Existing Securities
2. Pricing of Securities
3. Safety of Transaction
4. Contributes to Economic Growth
5. Providing Scope for Speculation
