“FINANCIAL MARKET”

INTRODUCTION:

Financial Market is the market where financial securities like stocks and bonds and
commodities like valuable metals are exchanged at efficient market prices. Here, by
efficient market prices we mean the unbiased price that reflects belief at collective
speculation of all investors about the future prospect. The trading of stocks and bonds in
the Financial Market can take place directly between buyers and sellers or by the medium
of Stock Exchange. Financial Markets can be domestic or international.

BASIS OF FINANCIAL MARKET

Basis of Financial Markets are the Borrowers and Lenders.

BORROWERS:

Borrowers of the Financial Market can be individual persons, private companies, public
corporations, government and other local authorities like municipalities. Individual
persons generally take short term or long term mortgage loans from banks to buy any
property. Private Companies take short term or long term loans for expansion of business
or for improvement of the business infrastructure. Public Corporations like railway
companies and postal services also borrow from Financial Market to collect required
money. Government also borrows from Financial Market to bridge the gap between govt.
revenue and govt. spending. Local authorities like municipalities sometimes borrow in
their own name and sometimes govt. borrows in behalf of them from the Financial
Market.

LENDERS:

Lenders in the Financial Market are actually the investors. Their invested money is used
to finance the requirements of borrowers. So, there are various types of investments
which generate lending activities. Some of these types of investments are depositing
money in savings bank account, paying premiums to Insurance Companies, investing in
shares of different companies, investing in govt. bonds and investing in pension funds
and mutual funds.
The following table illustrates where financial markets fit in the relationship between
lenders and borrowers:

RELATIONSHIP BETWEEN LENDERS AND BORROWERS

Lenders Financial Intermediaries Financial Markets Borrowers

Inter-bank Individuals
Banks
Stock-Exchange Companies
Individuals Insurance-Companies
Money-Market Central-Government
Companies Pension-Funds
Bond-Market Municipalities
Mutual Funds
Foreign-Exchange Public-Corporations

Many individuals are not aware that they are lenders, but almost everybody does lend
money in many ways. A person lends money when he or she:

• puts money in a savings account at a bank;

• contributes to a pension plan;
• pays premiums to an insurance company;
• invests in government bonds; or
• Invests in company shares.

DIFFERENT TYPES OF FINANCIAL MARKETS

CAPITAL MARKET

The capital market is the market for the issue and trading of long-term securities. The
term in this instance is measured as the term to maturity of the security and in order to be
classified as a capital market instrument, the term to maturity should be longer than 3
years. During the trading of these instruments, the securities traded are informally
classified into short-term, medium-term and long-term securities depending on their term
to maturity. Where the term to maturity of the instrument is up to five years, the security
is classified as a short-term capital market instrument. Where the term to maturity is five
to ten years, the security is classified as medium term, and where the term to maturity is
more than 10 years, the security is known as long-term.

Capital Market consists of:

Primary market & Secondary market

 Primary market

In primary market newly issued bonds and stocks are exchanged. So it is the market for
the first issue of securities. This issue is normally done by means of a public issue or by
private placement.

 Secondary market

In secondary market buying and selling of already existing bonds and stocks take place.
So it is the market for trading securities once they have been issued.

Capital Market can be divided into:

Bond Market & Stock Market

 Bond Market

It provides financing by bond issuance and bond trading.

 Stock Market

It provides financing by shares or stock issuance and by share trading.

As a whole, Capital Market facilitates rising of capital.

MONEY MARKET

Money Market facilitates short term debt financing and capital.

The need for a money market arises because receipts of economic units do not coincide
with their expenditures. These units can hold money balances to insure that planned
expenditures can be maintained independently of cash receipts (that is, transactions
balances in the form of currency, demand deposits, or NOW accounts). There is
however, a cost in the form of foregone interest involved, by holding these balances. To
enable the economic units to minimize this cost, they usually seek to hold the minimum
money balances required for day-to-day transactions. They supplement these balances
with holdings of money market instruments. The advantages of money market
instruments are: that it can be converted to cash quickly and at a relatively low cost, and
it have low price risk due to their short maturities. Economic units can also meet their
short-term cash demands by maintaining access to the money market and raising funds
there when required.

DERIVATIVES MARKET

Derivatives Market provides instruments which help in controlling financial risk.

Borrowing and lending of money create certain risks, namely

• That the borrower will not be able to repay the money

• That the lender is receiving a fixed rate on his investment while market rates
fluctuate in such a way that the yield on his initial investment is now below
current market related rates
• That the value of the capital invested could decrease due to movements in the
market.

To lower the risk of a financial transaction, the risk can be sold to people or institutions
that are willing to take on that risk without immediately taking over the effects of the
transaction. The institution willing to buy the risk associated with the transaction would
have to be compensated for taking on the risk. In monetary terms, the compensation for
taking on the risk would, however, be less than the possible maximum loss associated
with the risk. The trading of these risks associated with financial instruments resulted in
the development of derivative products.

FOREIGN EXCHANGE MARKET

The foreign exchange market (currency, forex, or FX) market is where currency trading
takes place. It is where banks and other official institutions facilitate the buying and
selling of foreign currencies. FX transactions typically involve one party purchasing a
quantity of one currency in exchange for paying a quantity of another. The foreign
exchange market that we see today started evolving during the 1970s when world over
countries gradually switched to floating exchange rate.

Foreign Exchange Market facilitates the foreign exchange trading. It is the market where
currencies of different countries are traded. Because different countries in the world buy
goods and services from one another, the different currencies change hands between
countries.

INSURANCE MARKET

Insurance Market helps in relocation of various risks.

Insurance, in law and economics, is a form of risk management primarily used to hedge
against the risk of a contingent loss. Insurance is defined as the equitable transfer of the
risk of a loss, from one entity to another, in exchange for a premium, and can be thought
of as a guaranteed small loss to prevent a large, possibly devastating loss. An insurer is a
company selling the insurance; an insured is the person or entity buying the insurance.
The insurance rate is a factor used to determine the amount to be charged for a certain
amount of insurance coverage, called the premium. Risk management, the practice of
appraising and controlling risk, has evolved as a discrete field of study and practice

COMODITY MARKET

Commodity markets are markets where raw or primary products are exchanged. These
raw commodities are traded on regulated commodities exchanges, in which they are
bought and sold in standardized contracts.

SPOT & FORWARD MARKET

When goods such as financial instruments are traded in a market, there are certain
differences between transactions done in these markets. The differences in transactions
in the financial markets can be categorised in different categories. The timing difference
between the closing of the transaction and the delivering of the goods or settlement of the
transaction

In the spot market, the closing of the transaction and the delivery of the goods take place
simultaneously or within a short-term time span prescribed by the specific market.
Uncertainty about delivery from the other party is very limited, otherwise no transaction
would take place.

The forward market is the market where a transaction is closed in the present, and the
settlement of the transaction and the delivery of goods are in the future. The delivery
date and the price are determined at the closing of the transaction. Because of the time
lapse between the closing and the settlement of the transaction, the risk that one of the
parties might not be able to deliver at the settlement date is higher than in the spot
market.

CONTRIBUTION OF FINANCIAL MARKETS

Financial Markets are essential for fund raising. Through Financial Market borrowers can
find suitable lenders. Banks also help in the process of financing by working as
intermediaries. They use the money, which is saved and deposited by a group of people;
for giving loans to another group of people who need it. Generally, banks provide
financing in the form of loans and mortgages. Except banks other intermediaries in the
Financial Market can be Insurance Companies and Mutual Funds. But more complicated
transactions of Financial Market take place in stock exchange. In stock exchange, a
company can buy others' company's shares or can sell own shares to raise funds or they
can buy their own shares existing in the market.
Financial Market is nothing but a tool which is used to raise capital. Just like any other
tool, it can be beneficial and can be harmful too. So, the ultimate outcome solely lies in
the hands of the people who use it to serve their purpose.