FINANCIAL MARKET AND ITS INSTRUMENTS
Financial markets can be categorized into primary and secondary markets:
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Primary Markets: In primary markets, new securities are issued and sold to initial investors, often through processes like initial public offerings (IPOs) or bond issuances. Companies and governments raise capital in primary markets.
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Secondary Markets: Secondary markets involve the trading of existing financial securities among investors. This is where most of the day-to-day buying and selling of financial assets occurs.
The money market plays a vital role in the overall functioning of the financial system and the economy as a whole. It serves as a critical component of the broader financial markets and has several key importance:
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Liquidity Management: The money market provides a platform for financial institutions, corporations, and governments to manage their short-term liquidity needs. This market allows participants to borrow or lend money for short durations, typically ranging from overnight to one year. It helps entities maintain enough liquidity to meet their operational and financial obligations.
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Interest Rate Benchmark: Money market instruments, such as Treasury bills and commercial paper, serve as benchmarks for short-term interest rates. Central banks often use these rates to implement monetary policy. Changes in money market rates can influence borrowing costs across the economy, impacting decisions related to spending, investment, and saving.
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Funding for Financial Institutions: Banks and other financial institutions use the money market to obtain short-term funds to meet reserve requirements, manage daily operations, and lend to customers. The money market is crucial for the stability and liquidity of financial institutions.
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Safe and Liquid Investments: Money market instruments are considered low-risk and highly liquid investments. Investors looking for a safe place to park their excess funds often turn to money market securities because of their minimal credit risk and ease of converting them into cash.
- Government Funding: Governments use the money market to raise funds for short-term needs, such as financing budget deficits. Treasury bills are commonly issued in the money market to meet these requirements
- Currency Markets: The foreign exchange (forex) market, a part of the money market, plays a pivotal role in facilitating international trade and currency exchange. It provides a platform for buying and selling different currencies, aiding in cross-border transactions and exchange rate determination
- Financial Stability: A well-functioning money market contributes to financial stability by ensuring the availability of short-term funds for institutions and corporations. During times of economic turbulence or financial crises, the money market can provide a source of stability and support.
Capital markets are financial markets where individuals, companies, and governments raise long-term funds by issuing and trading various financial instruments. Capital markets can be categorized into two primary types: primary and secondary markets. Within these markets, different types of financial instruments are traded, including stocks, bonds, and derivatives. Here's an overview of the types of capital markets:
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Primary Capital Market:
- Initial Public Offerings (IPOs): In an IPO, a company offers its shares to the public for the first time, raising capital by selling ownership stakes in the company. Investors purchase these shares directly from the issuing company.
- Rights Issue: Companies may issue additional shares to existing shareholders in proportion to their current holdings, allowing shareholders to maintain their ownership percentage. This is known as a rights issue.
- Private Placements: Instead of going public through an IPO, some companies raise capital by selling shares to a select group of investors in a private placement. This method is typically less regulated and more exclusive than an IPO.
- Debt Issuance: Companies and governments can raise capital in the primary market by issuing bonds or other debt instruments. These bonds are sold to investors, and the issuer pays periodic interest (coupon) and returns the principal at maturity.
- Venture Capital and Private Equity: Early-stage and growing companies may raise capital from venture capitalists and private equity firms through private equity investments, which can be considered a subset of the primary market.
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Secondary Capital Market:
- Stock Market: The stock market is a secondary market where shares of publicly traded companies are bought and sold. It includes primary exchanges like the New York Stock Exchange (NYSE) and secondary exchanges like NASDAQ.
- Bond Market: The bond market is where previously issued bonds and other debt securities are traded. This market includes both corporate and government bonds and various types of fixed-income securities.
- Commodity Exchange: Commodity markets facilitate the trading of commodities such as oil, gold, agricultural products, and metals. Futures contracts are often used for speculative and hedging purposes in these markets.
- Foreign Exchange (Forex) Market: The forex market is where currencies are traded. It's the largest and most liquid financial market in the world, where participants exchange one currency for another.
- Derivatives Market: The derivatives market includes financial instruments like futures and options contracts. These derivative instruments derive their value from underlying assets such as stocks, bonds, commodities, or indices.
- Real Estate Investment Market: Real estate investment trusts (REITs) are publicly traded on secondary markets and allow investors to access real estate markets indirectly.
- Structured Products Market: Structured products are complex securities that often combine multiple financial instruments, such as bonds and derivatives. They are traded on secondary markets.
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Alternative Capital Markets:
- Private Equity Markets: While private equity investments are primarily part of the primary market, secondary markets for private equity have emerged, allowing investors to buy and sell existing stakes in private companies.
- Crowdfunding Platforms: Online crowdfunding platforms enable individuals to invest in startups and small businesses, often through equity or debt crowdfunding, creating a form of alternative capital market.
| Subject | Capital Market | Money Market |
| Purpose and Duration of Securities | Capital markets are primarily focused on long-term financing and investments. They deal with securities and financial instruments that have longer maturities, typically over one year. The purpose of capital markets is to facilitate the transfer of long-term capital from investors to borrowers or issuers. Common instruments in capital markets include stocks, bonds, and equity-related derivatives | Money markets, on the other hand, are centered around short-term financing and investments. They deal with securities and financial instruments that have short maturities, usually ranging from overnight to one year. Money markets help participants manage their short-term liquidity needs and provide a platform for borrowing or lending funds for shorter durations. Common instruments in money markets include Treasury bills, commercial paper, certificates of deposit (CDs), and short-term government and corporate bonds. |
| Participants | Participants in capital markets include corporations, governments, and individuals seeking long-term financing or investment opportunities. Investors in the capital market often aim for capital appreciation, dividend income, or interest income over a longer period. | Money markets are typically used by financial institutions, corporations, governments, and institutional investors to meet short-term funding and liquidity needs. Investors in the money market prioritize the safety and liquidity of their investments while earning modest returns in the short term. |
| Risk Profile | Investments in capital markets are associated with varying degrees of risk, depending on the type of security. Stocks, for example, can be relatively high-risk investments, subject to price volatility. Bonds can offer more stability but are still subject to credit risk. Overall, capital market investments often involve higher levels of risk compared to money market investments. | Money market instruments are considered low-risk investments. They are typically issued by financially stable entities (e.g., governments, large corporations) and are characterized by minimal credit risk. Investors in the money market prioritize the preservation of capital and liquidity over the pursuit of higher returns |
| Instruments Traded | Common instruments in the capital market include stocks (equity shares), corporate bonds, government bonds, preferred stock, and various types of derivatives like options and futures contracts. | Money market instruments include Treasury bills, commercial paper, certificates of deposit (CDs), repurchase agreements (repos), short-term municipal and corporate bonds, and money market funds |
| Time Horizon | Investors in the capital market typically have a longer time horizon and are willing to hold their investments for an extended period, often years or even decades. | Money market investments are short-term in nature, and investors usually expect quick access to their funds, often within days or months |
Stock exchanges play an important role in the economy by providing a platform for companies to raise capital and for investors to buy and sell securities. They also help to promote price discovery, which is the process of determining the fair market value of a security.
Stock exchanges are regulated by government agencies, such as the Securities and Exchange Board of India (SEBI) in India and the Securities and Exchange Commission (SEC) in the United States. These agencies are responsible for ensuring that stock exchanges operate fairly and efficiently and that investors are protected from fraud
Stock exchanges are critical components of the global financial system, and they serve several important functions that contribute to the efficient operation of financial markets. Here is an overview of the nature and functions of a stock exchange:
Nature of a Stock Exchange:
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Marketplace: A stock exchange is a marketplace where various financial instruments, primarily stocks and securities, are bought and sold. It provides a platform for buyers and sellers to interact and execute trades.
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Organized and Regulated: Stock exchanges are highly organized and regulated entities. They have rules and regulations governing trading, listing requirements, and disclosure standards to maintain market integrity.
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Electronic Trading: Most modern stock exchanges have shifted to electronic trading platforms, where transactions are conducted electronically through computer networks. This enhances transparency and efficiency.
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Centralized: Stock exchanges offer centralized trading, which means that all trades are conducted through the exchange's facilities or electronic platforms. This centralization ensures standardized procedures and pricing.
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Liquidity Provider: Stock exchanges play a crucial role in providing liquidity to financial markets. Liquidity refers to the ease with which assets can be bought or sold without significantly impacting their prices. Stock exchanges help maintain liquidity by bringing together a large number of buyers and sellers.
Functions of a Stock Exchange:
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Price Discovery: Stock exchanges facilitate the process of price discovery by determining the market prices of securities. Prices are determined through the continuous interaction of supply and demand for each security.
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Trading Platform: Stock exchanges provide a structured and secure trading platform where investors can buy and sell securities. This platform ensures transparency and fairness in trading.
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Market Surveillance: Stock exchanges have regulatory bodies responsible for market surveillance. These bodies monitor trading activities to detect and prevent fraudulent or manipulative practices, ensuring market integrity.
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Listing of Securities: Companies that want to raise capital from the public can list their shares on a stock exchange. Listing involves meeting specific regulatory and disclosure requirements. Once listed, a company's shares become publicly tradable, allowing it to access a broader base of investors.
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Access to Capital: Stock exchanges provide companies with access to capital by allowing them to issue shares in the primary market (through an initial public offering, or IPO) and subsequently trade those shares in the secondary market. This capital can be used for business expansion, investments, or other corporate purposes.
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Investor Protection: Stock exchanges help protect the interests of investors by enforcing rules and regulations. They require listed companies to provide accurate and timely financial information and disclosures, enhancing transparency and reducing the risk of fraud.
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Market Index: Stock exchanges often have market indices that represent the performance of a group of stocks in the market. These indices serve as benchmarks and indicators of overall market health and performance.
India has several major stock exchanges, with the Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE) being the two primary and most prominent ones. These exchanges play a crucial role in India's financial markets and the broader economy. Here is an overview of the major stock exchanges in India:
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Bombay Stock Exchange (BSE):
- Founded in 1875, the BSE is one of the oldest stock exchanges in Asia and is headquartered in Mumbai, Maharashtra.
- BSE is known for its iconic Phiroze Jeejeebhoy Towers building, which is a prominent landmark in Mumbai.
- It is a diversified exchange with a wide range of securities, including stocks, bonds, mutual funds, exchange-traded funds (ETFs), and derivatives.
- BSE's benchmark equity index is the Sensex, which tracks the performance of the 30 largest and most actively traded companies on the exchange.
- BSE is also home to the BSE SME Platform, which is dedicated to small and medium-sized enterprises (SMEs) looking to raise capital.
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National Stock Exchange (NSE):
- Founded in 1992, NSE is a relatively newer stock exchange headquartered in Mumbai.
- NSE is the largest stock exchange in India by trading volume and market capitalization, known for its state-of-the-art electronic trading platform.
- It offers a wide range of financial products, including equities, derivatives (futures and options), debt securities, mutual funds, and ETFs.
- The NSE Nifty 50 is the benchmark equity index that tracks the performance of the top 50 companies listed on the exchange.
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Calcutta Stock Exchange (CSE):
- Founded in 1908, CSE is one of the oldest stock exchanges in India and is located in Kolkata, West Bengal.
- Over the years, CSE has seen a decline in trading activity, and it mainly operates as a regional stock exchange.
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National Commodity & Derivatives Exchange Limited (NCDEX):
- NCDEX, headquartered in Mumbai, is a specialized commodity exchange in India.
- It primarily focuses on the trading of agricultural commodities and derivatives contracts related to commodities.
- NCDEX plays a vital role in facilitating hedging and price discovery in the Indian agricultural commodities market.
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Multi Commodity Exchange of India Ltd (MCX):
- MCX, headquartered in Mumbai, is another prominent commodity exchange in India.
- It offers trading in a wide range of commodities, including precious metals, base metals, energy, and agricultural products.
- MCX provides a platform for hedging and price risk management for various market participants.
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National Multi Commodity Exchange (NMCE):
- NMCE, headquartered in Ahmedabad, Gujarat, is another commodity exchange in India.
- It focuses on the trading of agricultural and non-agricultural commodities.
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Indian Commodity Exchange (ICEX):
- ICEX, headquartered in Mumbai, specializes in trading in diamond derivatives.
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BSE StAR MF: This is a platform operated by BSE that facilitates the distribution of mutual funds in India.
The Securities and Exchange Board of India (SEBI) is the regulatory body that oversees and regulates the securities markets in India. It was established in 1988 and given statutory powers in 1992 through the SEBI Act, which was later amended in 1995. SEBI plays a crucial role in ensuring the integrity and transparency of India's financial markets, protecting the interests of investors, and promoting the development and orderly functioning of the securities industry. Here are some key functions and responsibilities of SEBI:
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Regulation and Oversight: SEBI regulates various segments of the securities market, including stock exchanges, stockbrokers, depositories, mutual funds, portfolio managers, and credit rating agencies. It sets rules, regulations, and guidelines to ensure fair and transparent market practices.
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Investor Protection: One of SEBI's primary objectives is to protect the interests of investors. It does so by promoting fair and ethical conduct in the securities markets, ensuring proper disclosure of information by listed companies, and taking action against fraudulent or unfair trade practices.
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Market Surveillance: SEBI monitors the activities of market participants to detect and prevent market manipulation, insider trading, and other malpractices. It employs advanced surveillance and investigation techniques to maintain market integrity.
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Issuance and Trading of Securities: SEBI regulates the issuance and trading of various securities, including equities, bonds, and derivatives. It ensures that companies seeking to raise capital through public offerings (IPOs) adhere to disclosure norms and transparency requirements.
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Regulation of Mutual Funds: SEBI regulates the mutual fund industry in India. It sets guidelines for the creation and management of mutual funds, protecting the interests of unit holders (investors).
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Development of Market Infrastructure: SEBI promotes the development of market infrastructure, including stock exchanges and depositories. It sets standards and regulations for the operation of these institutions, ensuring their efficient functioning.
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Corporate Governance: SEBI plays a pivotal role in enhancing corporate governance practices in listed companies. It issues corporate governance guidelines, encourages transparency in financial reporting, and monitors compliance by listed entities.
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Derivatives Regulation: SEBI regulates the derivatives market, including futures and options contracts. It sets rules for the trading and clearing of derivatives and ensures that participants have adequate risk management mechanisms in place.
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Regulation of Foreign Institutional Investors (FIIs) and Foreign Portfolio Investors (FPIs): SEBI regulates the participation of foreign investors in the Indian securities markets. It sets guidelines and regulations to ensure transparency and compliance with investment limits.
The Insurance Regulatory and Development Authority of India (IRDAI) is the regulatory body that oversees and regulates the insurance industry in India. Established in 1999, IRDAI was formed through the Insurance Regulatory and Development Authority Act, 1999. Its primary mission is to protect the interests of policyholders while ensuring the orderly growth and development of the insurance industry in India. Here are some key functions and responsibilities of IRDAI:
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Regulation and Supervision: IRDAI regulates and supervises the insurance sector in India, including life insurance, general insurance, and reinsurance. It establishes rules, regulations, and guidelines for insurance companies, intermediaries, and other stakeholders in the industry.
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Licensing and Registration: IRDAI is responsible for granting licenses and registering insurance companies, insurance intermediaries (such as insurance agents and brokers), and other entities involved in the insurance business. These licenses are granted based on specific criteria and requirements.
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Policyholder Protection: IRDAI plays a crucial role in safeguarding the interests of policyholders. It ensures that insurance companies meet their contractual obligations to policyholders and maintains guidelines for fair treatment of policyholders.
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Product Approval: The regulatory authority reviews and approves insurance products before they are offered to the public. This process ensures that insurance policies are fair, transparent, and beneficial to policyholders.
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Market Conduct Regulation: IRDAI establishes guidelines and standards for the conduct of insurance companies and intermediaries. It monitors market practices to prevent fraud, misrepresentation, and unfair practices.
- Dispute Resolution: In cases of disputes between policyholders and insurance companies, IRDAI provides a mechanism for resolution. This includes addressing complaints and grievances through its Integrated Grievance Management System (IGMS).
- Promoting Competition: IRDAI encourages competition in the insurance industry to provide consumers with a variety of insurance products and services to choose from. It issues guidelines related to mergers, acquisitions, and foreign direct investment in the insurance sector.
