FINANCIAL MARKETS – AN OVERVIEW:
In common parlance, a market is a place where investing takes place. Whenever we think about markets, an image that flashes across our thoughts is of a place which is very active, with buyers and sellers, several sellers, shouting at the top of their voice, trying to convince customers to buy their wares. A place abuzz with vibrancy and energy.
In the early stages associated with civilization, people were self-sufficient. They grew every thing they needed. Food was your main commodity, which could be very easily grown at the backyard, and for the particular non-vegetarians, jungles were open without restrictions on hunting. However , with the development of civilization, the needs of every getting grew; they needed clothes, wares, instruments, weapons and many other things which could not be easily made or created by one person or family. Hence, the necessity of a common place was felt, where people who had a commodity to offer and the people who needed that commodity, can gather satisfy their mutual needs.
With time, the manner in which the markets functioned changed and developed. Markets became more and more sophisticated and specialized in their particular transaction so as to save time plus space. Different kinds of markets came into being which specialized in a particular kind of commodity or even transaction. In today’s world, there are markets which cater to the needs of manufacturers, sellers, ultimate consumers, kids, women, men, students and what not. For the dialogue of the topic at hand, the different types of markets that exist in the present day can be broadly classified as goods markets, service markets and financial markets. The present article seeks to give an understanding of Financial Markets.
WHAT IS A FINANCIAL MARKET?
According to Encyclopedia II, ‘Financial Markets’ mean:
“1. Organizations that facilitate trade in financial products. we. e. Stock Exchanges facilitate the trade in stocks, bonds plus warrants.
2 . The coming with each other of buyers and sellers in order to trade financial product i. electronic. stocks and shares are exchanged between buyers and sellers in a number of ways including: the use of stock exchanges; directly between buyers and sellers etc . ”
Financial Markets, since the name suggests, is a market exactly where various financial instruments are traded. The instruments that are traded in these markets vary in nature.
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They may be in fact tailor-made to suit the needs of numerous people. At a macro level, people with excess money offer their money to the people who need it for purchase in various kinds of projects.
To make the dialogue simpler, let’s take help of an example. Mr. X has Rupees 10 lacs as his financial savings which is lying idle with him. He wants to invest this cash so that over a period of time he can increase this amount. Mr. Y could be the promoter of ABC Ltd. He’s a business model, but he does not have enough financial means to start an organization. So in this scenario, Mr. Con can utilize the money that is resting idle with people like Mr. By and start a company. However , Mr. X may be a person in Kolkata plus Mr. Y may be in Mumbai. So the problem in the present scenario is that how does Mr. Y come to know that a certain Mr. X has money which he is willing to invest in an opportunity which is similar to one which Mr. Con wants to start?
The above problem can be solved by providing a common place, where people with surplus cash can mobilize their savings towards those who have to invest it. This is precisely the function of financial markets. They, through various instruments, solve just one issue, the problem of mobilizing savings through people who are willing to invest, to the people that can actually invest. Thus from the over discussion, we can co-relate how monetary markets are no different in spirit from any other market.
The following issue that needs to be redressed is what will be the distinction between various financial musical instruments that are floated in the market? The answer to this question lies in the nature or requirements of the investors. Investors are of numerous kinds and hence have different needs. Various factors that motivate investors are ownership of controlling risk in a company, security, trading, conserving, etc . Some investors may want to make investments for a long time and earn an interest on the investment; others may just want a short term investment. There are investors who want the diverse kind of investment so that their own overall investment is safe in case one of the investments fails. Hence, it is the requirements of the investors that have brought about a lot of financial instruments in the market.
There is an additional player in the financial market apart from buyers and sellers. As stated over, the one who wants to lend money and the one who wants to invest the money may be situated in different geographical locations, really far from each other. A common place with this transaction will require the meeting of these persons in person to close the transaction. This may again result in a lots of hardship. It may also be the case that this rate at which the lender wants to lend his money or the duration for which he wants his money to incur interest, may not be acceptable towards the borrower of the money. This would result in a lot of glitches and latches with regard to closing the transaction. To solve this problem, we have a body called the Intermediaries, which operate in the financial marketplaces. Intermediaries are the ones from whom the borrowers borrow the harbored savings of the lenders. Their key function is to act as link to mobilize the finances from the lender to the borrower.
Intermediaries may be of different kinds. The basic difference in these intermediaries relies upon the kind of services they provide. Nevertheless , they are similar in the sense that nothing of the intermediaries are principal parties to a transaction. They merely work as facilitators. The kinds of intermediaries that will operate in financial markets are:
᾿ Deposit-taking intermediaries,
᾿ Non-deposit using intermediaries, and
᾿ Supervisory plus regulatory intermediaries.
Deposit-taking intermediaries are those that accept deposits from a principal. They accept deposits so that the debris can be utilized for the purpose of advancing loans to the persons who are in need of it. Example – Reserve Bank of India, Private Banks, Agricultural Banks, Postal office shooting, Trust Companies, Caisses Populaires (Credit Unions), Mortgage Loan Companies, etc .
Non-deposit taking intermediaries are those which only manage funds on behalf of the client. These people act as agents to the principal. They merely bring together the borrower as well as the lender with similar needs. Unit Trusts, Insurers, Pension Funds and Finance Companies are an example of this kind of intermediaries.
Supervisory and Regulatory Intermediaries do not actively participate in the trading of securities in the financial markets as parties. They perform the perform of overseeing that all the dealings that take place in the financial markets are in conformity with the statutory and regulatory construction. They step in only when any mistake or omission has been committed by either of the parties to the transaction, and take steps as is provided by the particular statutory and regulatory scheme. The Bombay Stock Exchange, National Stock Exchange, and so forth are examples of this kind of intermediary.
PRINCIPAL MARKETS AND SECONDARY MARKETS:
In financial markets, the financial instruments (securities) may be traded first hand or second-hand. For example , A wants to invest Rs. 1 million in XYZ Company, which is a newly incorporated company. 1 share of XYZ Co. costs Rs. 500. In this scenario, A will purchase 2000 shares of XYZ Co. XYZ Co. is issuing shares to A in return to his investment, first hand.
Suppose after purchasing the shares from XYZ Co., A holds the stocks for a year and thereafter wants to sell the shares, he may sell the shares through a stock exchange. W wants to purchase 2000 shares of XYZ Co. B approaches the particular stock exchange and purchases the stocks therefrom. In this case, B has not directly purchased shares from XYZ Co., however , he is as good an owner of shares as anyone who purchased the shares from XYZ Company. directly.
In the first example, The purchased the shares of XYZ Co. directly. Hence, he purchased his shares from the Primary market. In the second example, B did not purchase the shares from XYZ directly, however , his title over the gives is as good as A’s, despite the fact that he purchased the shares from Secondary market.
KINDS OF FINANCIAL MARKETS:
When securities are issued in financial markets, the borrower has to pay an interest on the amount borrowed. Securities may be classified based on the duration for which they are floated. The kinds monetary markets that exist based on the duration for which the securities have been issued are:
᾿ Capital Markets: This kind of monetary market is one in which the securities are usually issued for a long-term period.
᾿ Money Markets: In this kind of financial markets, securities are issued for any short-term period.
The trading of financial instruments and the closing associated with transaction need not necessarily take place simultaneously. There may be a time gap between the occurring of a transaction and closing or even effectuating the transaction. The kinds of financial markets that can be distinguished with this basis are:
᾿ Spot Markets: The transaction is brought straight into effect at the time the trading takes place. By the very nature of the deal, it can be understood that the risk related to this kind of market is very minimal because the parties have no scope of returning on their promised actions.
᾿ Forward Markets: In this kind of market, the particular transaction takes place on one date and it is effected on some future time, which is mutually accepted between events to the transaction. As the date on which the mutually accepted transaction is definitely effected is different from the date which the transaction is mutually approved, there is a risk that one of the parties may not be in a position; on the date the particular transaction is to be effected, to honor the transaction. Hence the level of risk in this market is higher than that of spot markets.
᾿ Future Markets: This kind of financial market closely resembles Forward Markets, with the difference that in this market, the quality and the quantity of the goods that are traded are specified on the date the transaction can be entered into, though the transaction is to be affected on some future date. Addititionally there is an added advantage in this market compared to Forward Markets in the sense that there is securities of guarantee in case one of the celebrations fails to honor his part of the executing which he had promised while entering into the transaction. Hence, the level of risk associated with this market is comparatively lower than that of the Forward Markets.