UNIT-10

FINANCIAL MARKETS

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 INTRODUCTION

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. In doing so it performs what is known
as an allocative function.

Households can deposit their surplus funds with banks, who in turn
could lend these funds to business firms. Alternately, households can
buy the shares and debentures offered by a business using financial
markets

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 CONCEPT OF FINANCIAL MARKET

A financial market is a market for the creation and exchange of financial

assets.

Financial markets exists wherever a financial transaction occurs.

In this market, money from those who have surplus money is transferred to
those who require investment.

Investors are surplus units and business enterprises are deficit units, where
the financial market acts as a link between surplus and deficit units.

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 FUNCTIONS OF FINANCIAL MARKET

Mobilization of Savings and Channeling them into the most Productive Use: A
financial market facilitates the transfer of savings from savers to investors. It
gives savers the choice of different investments and thus helps to channelize
surplus funds into the most productive use.

Facilitating Price Discovery: In the financial market, the households are

suppliers of funds and business firms represent the demand. The interaction
between them helps to establish a price for the financial asset which is being
traded in that particular market.

Providing Liquidity to Financial Assets: Financial markets facilitate easy

purchase and sale of financial assets In doing so they provide liquidity to
financial assets, so that they can be easily converted into cash whenever
required.

Reducing the Cost of Transactions: Financial markets provide valuable

information about securities being traded in the market. It helps to save time,
effort and money that both buyers and sellers of a financial asset would have
to otherwise spend to try and find each other.

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 Financial market

Money market Capital market

Instruments of the Money Market

Treasury bill Primary Market Secondary Market

Methods of Floatation of Securities

Call money
Offer through prospectus stock
Commercial paper exchange or
Offer for sale stock market
Commercial bill Private placement

Certificate of deposit Rights issue

E-IPOs

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 MONEY MARKET
It refers to a market which deals in short-term securities and whose maturity
is less than one year.

The assets in the money market can be regarded as very close substitutes for
money. Accordingly, they are also called ‘near money instruments’.

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 CAPITAL MARKET

capital market refers to facilities and institutional arrangements through

which long-term funds, both debt and equity are raised and invested.

The capital market consists of development banks, commercial banks and

stock exchanges.

Instruments used in the capital market are shares, debentures, bonds,

mutual funds and public deposits.

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 TYPES OF CAPITAL MARKET

The main components of the capital market are primary market and
secondary market.

PRIMARY MARKET

The primary market is also known as the new issues market. It deals with new
securities being issued for the first time.

The essential function of a primary market is to facilitate the transfer of

investible funds from savers to entrepreneurs seeking to establish new
enterprises or to expand existing ones through the issue of securities for the
first time.

The investors in this market are banks, financial institutions, insurance

companies, mutual funds and individuals.

Funds raised may be used for setting up new projects, expansion,

diversification, modernization of existing projects, mergers and takeovers etc.

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 PRIMARY MARKET: METHODS OF FLOATATION OF SECURITIES
1. Offer through Prospectus: It is the most popular method of raising funds by public
companies in the primary market.
It involves inviting subscription from the public through issue of prospectus.
A prospectus makes a direct appeal to investors to raise capital, through an
advertisement in newspapers and magazines.

2. Offer for Sale: Under this method securities are not issued directly to the public but
are offered for sale through intermediaries like issuing houses or stock brokers.
A company sells securities at an agreed price to brokers who, in turn, resells them to
the investing public.

3. Private Placement: It is the allotment of securities by a company through the

intermediaries to institutional investors and some selected individuals.
It helps to raise capital more quickly than a public issue.

4. Rights Issue: This is a privilege given to existing shareholders to subscribe to a new

issue of shares according to the terms and conditions of the company.
The shareholders are offered the ‘right’ to buy new shares in proportion to the number
of shares they already possess.

5. E- IPOs::A company proposing to issue capital to the public through the on-line
system of the stock exchange has to enter into an agreement with the stock exchange.
This is called as an Electronic Initial Public Offer (IPO).
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 SECONDARY MARKET

 It is also known as the stock market or stock exchange.

 It is a market for the purchase and sale of existing securities.

 It helps existing investors to disinvest and fresh investors to enter the market.

 It also provides liquidity and marketability to existing securities.

 The first stock exchange was established in 1875 as ‘The Native Share and
Stock Brokers Association’ in Bombay. It was later renamed Bombay Stock
Exchange (BSE).

 As a market, the stock exchange facilitates the exchange of a security

(shares, 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.

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Meaning of stock exchange according to securities
contracts (Regulation) Act 1956 : stock exchange means
any body of individuals, whether incorporated or not,
constituted for the purpose of assisting, regulating or
controlling the business of buying and selling or dealing in
securities.

FUNCTIONS OF A STOCK EXCHANGE

1. Providing Liquidity and Marketability to Existing Securities: The basic
function of a stock exchange is the creation of a continuous market where
securities are bought and sold.
It gives investors the chance to disinvest and reinvest.
This provides both liquidity and easy marketability to already existing
securities in the market.

2. Pricing of Securities: Acts as a mechanism for continuous valuation of price

of securities through the forces of demand and supply.
This valuation serves as an important information to buyers and sellers in
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3. Safety of Transactions: The membership of a stock exchange is well-
regulated and its dealings are well defined according to the existing legal
framework. This ensures that the investing public gets a safe and fair deal on
the market

4. Contributes to Economic Growth: Through the process of disinvestment and

reinvestment savings get channelized into their most productive investment
avenues. This leads to capital formation and economic growth.

5. Spreading of Equity Cult: It ensures wider share ownership by regulating

new issues, better trading practices and taking effective steps in educating
the public about investments.

6. Providing Scope for Speculation:It:A certain degree of healthy speculation is

essential to maintain the continuous process of the demand and supply of
securities, and this function is performed by the stock exchange.

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 TRADING PROCEDURE AT THE STOCK EXCHANGE

Steps in the trading procedure:

Selection of a broker

Opening Demat account

Placing an order

Executing the order

Settlement stage

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 TRADING PROCEDURE – STEPS
1. Selection of a broker: If an investor wishes to buy or sell any security he has
to first approach a registered broker or sub-broker and enter into an
agreement with him ,who will be trading the securities on behalf of the
investor for a commission.

2. Opening Demat Account: Demat account refers to an account which an

investor must open with the depository participant to trade in the listed
securities in the electronic form.
Depository Services : just like a bank keeps money in safe custody for
customers, a depository also is like a bank and keeps securities in electronic
form on behalf of the investor. There are two depositories in India:
NSDL – National securities Depository Ltd.
CDSL – Central Depository Services Ltd.
Depository participant: The depository participant (DP) serves as an
intermediary between the investor and the Depository. He opens the account
of Investor and maintains securities records.

3. Placing an order: after opening the Demat account, the investor places an
order with the broker clearly specifying the price range an the security code
number through which the purchase and sale should take place.
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4. Execution of the order: the broker executes the order and prepares a
contract note which states name and price of the securities, parties involved ,
brokerage and other taxes charged by him.

5. Settlement : this means actual delivery of securities. It can be of two types:

a) On the spot settlement:. It means settlement is done immediately . on the

spot settlement follows T + 2 rolling settlement. This means any trade
taking place on Monday gets settled by Wednesday.
b) Forward settlement : it means settlement taking place on some future
date. It can be T+5,T+6 ,T+7 etc.

NOTE: Dematerialisation (usually known as demat) is converting physical certificates to

electronic form. Rematerialisation, known as remat, is reverse of demat, i.e getting
physical certificates from the electronic securities.

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DISTINGUISH BETWEEN PRIMARY AND SECONDARY MARKETS

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DIFFERENCE BETWEEN CAPITAL MARKET AND MONEY MARKET
BASIS CAPITAL MARKET MONEY MARKET
Participants Financial Institutions, Banks,
RBI, Banks Institutions and
Corporate Entities, foreign
finance companies.
investors and individuals.
Instruments Equity shares, bonds preferences Treasury Bills, Trade Bills
traded and debentures, call money etc. commercial paper
Investment Entails huge sum of money as
Outlay Does not necessarily require a
the instruments are quite
huge financial outlay.
expensive.
Duration Deals in medium and long term Deals in short term funds
securities having a maturity having a maturity period up to
period of one year. one year.
Liquidity Securities are less liquid as money Money markets instruments
market securities. are highly liquid
Expected High return Low return

riskier both with respect to return are much safer with a

Safety
and repayment. minimum risk of default.
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 SECURITIES AND EXCHANGE BOARD OF INDIA (SEBI)

• The Securities and Exchange Board of India (SEBI) was established in 1988
with the basic objective of promoting orderly and healthy growth of the
securities market.

• It aims at investor protection along with promoting the development and

regulation of the functions of the securities market.

• SEBI got a statutory status on 30 January 1992 through an ordinance which

is now replaced by an Act of the Parliament known as the Securities and
Exchange Board of India Act, 1992.

Objectives of SEBI

 To regulate stock exchanges and the securities industry to promote their

orderly functioning.
 To protect the rights and interests of investors, particularly individual
investors and to guide and educate them.
 To prevent trading malpractices like price rigging, insider trading and
promote fair and transparent dealings.
 To regulate and develop a code of conduct and fair practices by
intermediaries like brokers, merchant bankers etc.
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 FUNCTIONS OF SEBI

To achieve the objectives as mentioned above, SEBI performs the functions

under three main heads.

1. Regulatory Functions

2. Development Functions

3. Protective Functions

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 Regulatory FUNCTIONS OF SEBI
Development Protective
Registration of brokers and sub Training of intermediaries of the Prohibition of fraudulent and
brokers and other players in the securities market. unfair trade practices like
market. making misleading statements,
manipulations, price rigging
etc.

Registration of collective Conducting research and Controlling insider trading and

investment schemes and publishing information useful to imposing penalties for such
Mutual Funds. all market participants. practices

Regulation of stock brokers, Undertaking measures to Undertaking steps for investor

portfolio exchanges, develop the capital markets by protection.
underwriters and merchant adapting a flexible approach
bankers and the business in
stock exchanges and any other
securities market.

Levying fee or other charges for Promotion of fair practices and

carrying out the purposes of code of conduct in securities
the Act. market.

Under the Securities Contracts

(Regulation) Act, 1956, SEBI
performs various legislative
functions delegated by the
Government of India.
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 Mind map

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