Financial Markets – Money Market & Capital Market

Marketplaces setup to carry out financial activities are known as Financial Markets.

A Financial Market is any marketplace where buyers and sellers get together to participate in trading of financial assets such as shares, bonds, currencies and other financial instruments.

Financial markets are characterized by transparent pricing, regulation on trading, Underwriting costs and fees, and operation of market forces which determine the price of securities.

Classification of Financial Markets 

Organized Market – The organized financial markets are governed by the rules and regulations of the government and is supervised and controlled by the central bank (RBI in India) or other regulatory body.

There are two types of organized financial markets –

• Money Market
• Capital Market

Unorganized market – An unorganized market is not controlled and supervised by the central bank. It generally consists of money lenders, traders, indigenous bankers who lend money to the public.

Types of Financial Markets

Money Market

A money market is a financial market where financial instruments with high liquidity and a short maturity period are traded. The money market is used by its participants to carry out lending or borrowing activities through short term financial instruments which have a maturity period of less than a year.

A money market consists of the following institutions –

• Commercial bank
• Central Bank
• Acceptance houses
• Non-banking Financial Companies
• Bill Brokers

Functions of Money Market –

• Mobilization and liquidation of funds
• Profitable Investment
• Borrowing by the government
• Economic Development

Instruments of Money Market –

• Commercial Paper
• Commercial Bill
• Certificate of Deposit
• Treasury Bill
• Call Money

Commercial Paper – It is a short term unsecured promissory note, negotiable and transferable by endorsement and delivery with a fixed maturity period. A commercial paper is issued by large credit worthy financial institutions to raise short term funds at market prevailing interest rates. It usually has a maturity period of 15 days to 1 year.

Commercial Bill – It is a bill of exchange used to finance the working capital requirements of a business. It is a short term, negotiable and self-liquidating instrument which is used to finance the credit sales of firms where the seller is the drawer and the buyer is the drawee.

Certificate of deposit – These a marketable receipts in bearer form for funds deposited in a bank for a specified period of time and at a specified rate of interest. It is a form of fixed deposit which is transferable in nature i.e. it can be sold to someone and can be traded in the secondary market. A certificate of Deposit can be issued for a minimum amount of Rs. 5 Lakhs upto Rs. 1 crore in India.

Treasury bill – It is a short term government security, usually for a time period of 91 days, sold by the central bank, RBI in India, on behalf of the government. A treasury bill does not carry a fixed rate of interest and is secured because of the guarantee of repayment provided by the Reserve bank of India (RBI).

Call Money – It refer to funds provided for a short period of time, usually less than a week. Generally banks are the borrowers and lenders of call money. Commercial banks and other financial institutions give their surplus funds to small banks, it may be taken for a day or even few hours. 

Capital Market

Capital market is one of the most significant aspect of the finance industry. It consists of financial institutions like IDBI, ICICI, LIC etc.

A Capital market may be broadly defined as a financial market for trading of long term financial assets. Capital markets are concerned with raising of capital for a business through buying and selling of shares, bonds and other long-term debt and equity instruments.

It simply refers to an institutional arrangement between the business and financial institutions to deal in long term debt and equity backed securities.

Functions of Capital Market 

• Capital Formation
• Mobilization of Savings
• Provision and Regulation of funds
• Aid in economic growth and development

 Nature of Capital Market 

• It deals in long term securities
• It creates dispersion in business ownership
• It helps in capital formation
• It helps in creating liquidity

Types of Capital Market

Primary Market: The primary capital market is concerned with issue of new securities and listing of new shares on the stock exchange. In a primary market private and public companies obtain funds through issue of new debt or equity securities.

Primary markets are facilitated by many financial institutions and investment banks which are responsible for underwriting, setting initial share prices and selling securities directly to prospective investors.

Secondary Market: In a secondary market those securities are traded which have already been initially offered to the public in the primary market or listed in the stock exchange. A secondary market can also be categorised into equity market and debt market on the basis of the nature of security being traded.