Financial Market Notes Business Studies Class 12

Summary Financial markets: Concept, functions and types Money market instruments Types of capital market Difference between primary and secondary market Methods of floatation in primary market Functions of stock exchange Trading procedure on a stock exchange SEBI: Objectives and functions

 

A financial market is a market for the creation (new issue of securities) and exchange (sale of existing securities) of financial assets.

Functions of Financial Market

1. Mobilisation of savings and channelising them into productive uses: It performs the allocative function by mobilisation of savings and channelising them into the most productive avenues. It serves as the link between buyers and sellers of securities. 

2. Price discovery: It helps to determine the price for the securities through the market forces of demand and supply. 

3. Providing liquidity: It provides liquidity to the financial assets by providing ready markets wherein the securities can be easily converted into cash and cash can be converted into securities. 

4. Reducing the cost of transactions: It helps in reducing the cost of transactions by providing information to buyers and sellers. 

 

Types / Segments of Financial Market

• Capital Market

• Money Market

Difference between capital market and money market:

Basis	Capital Market	Money Market
Duration	Medium term/ long term	Short term
Instruments/securities	Shares, debentures, bonds etc.	Certificate of deposits, call money, commercial paper etc.
Expected Return	Higher	Lower
Risk	Higher	Lower
Investment outlay	Low	High
Liquidity	Less	More

Money market instruments

1. Treasury bills: 

• Treasury bills are issued by RBI on behalf of the central government.

• Purpose of treasury bills is to meet short-term financial needs of central government.

• Treasury bills can be issued for a minimum amount of Rs 25000 and in multiples thereof.

• Treasury bills are issued at a discount and redeemable at par.

2. Call money: 

• Call money is used for inter-bank transactions. The borrower of call money is commercial banks with shortage of cash and lender of call money are generally commercial banks with surplus funds.

• Purpose is to maintain CRR by commercial banks.

• Duration of call money is from 1 to 15 days.

3. Commercial paper:

• Commercial papers are issued by large and creditworthy companies.

• Purpose of issuing commercial paper is to meet working capital requirements and bridge financing (to meet floatation costs). 

• It is issued at a discount and redeemable at par.

4. Certificate of deposit: 

• Certificates of deposit are issued by commercial banks.

• Purpose: Certificates of deposits are issued to meet the demand for loans when the deposit growth is slow. 

5. Commercial or trade bills:

• A trade bill is a written document which contains an order to pay a specified sum of money to a particular person.

• It is used in credit purchase and sale of goods.

 

Types of Capital Market:

1. Primary Market/New Issue Market

2. Secondary Market/Stock Exchange

Difference between primary market and secondary market:

Basis	Primary Market	Secondary Market
Meaning	It is a market for issue of new securities.	It is a market for exchange of existing securities.
Buying/selling of securities	Only buying of securities takes place in the primary market.	Both buying and selling of securities can take place on the stock exchange.
Price Discovery	Prices are determined and decided by the management of the company.	Prices are determined by demand and supply for the security.
Geographical location	There is no fixed geographical location.	Located at specified places.
Capital formation	It directly promotes capital formation.	It indirectly promotes capital formation.

 

Methods of Floatation in Primary Market

1. Offer through Prospectus: The company invites the public to purchase its securities directly by issuing a prospectus.

2. Offer for Sale: The company issues securities to intermediaries at an agreed price who then further resell the securities to the public. 

3.  Private Placement: The company does not issue securities to public but to selected individuals and institutions only.

4. Rights Issue: The company issues securities to the existing shareholders in the proportion in which shares are already held by them. 

5. E-IPOs: In this method, the company issues securities using online systems. 

Functions of a Stock Exchange:

1. Providing Liquidity and Marketability to Existing Securities: A stock exchange provides a ready market where securities are bought and sold.

2. Pricing of securities: It helps to determine the price for the securities through the market forces of demand and supply. 

3. Safety of transaction: The working of a stock exchange is well regulated. This ensures safety of transactions.

4. Contributes to economic growth: Stock exchanges helps in channelising savings into their most productive investment avenues.

5. Spreading of equity cult: Stock exchange helps in educating the public about investments.

6. Providing scope for speculation: The stock exchange provides scope within the provisions of law for speculative activity in a controlled manner.

Securities and Exchange Board of India (SEBI):

SEBI was established in 1988 and was given statutory status in 1992. 

Objectives of SEBI:

The objectives of SEBI as follows:

1. To protect the interests and rights of investors.

2. To regulate the working of stock exchange.

3. To promote the development of the stock exchange. 

Functions of SEBI:

1. Protective functions

2. Regulatory functions

3. Developmental functions

Protective functions of SEBI are as follows:

• To prohibit insider trading

• To prevent unfair trade practices against the investors 

• To develop a code of conduct for dealings with investors 

Developmental functions of SEBI are as follows:

• To provide training to intermediaries

• To conduct research and provide valuable information to all market participants

• To educate investors

Regulatory functions of SEBI are as follows: 

• To conduct enquiries and audits of stock exchanges

• Registration of collective investment schemes and mutual funds

• Registration of brokers and sub brokers and other market players

• Registration of bankers and merchant bankers. 

 Trading procedure on stock exchange

The procedure of buying and selling of securities in a stock exchange involves the following steps:

1. Selection of broker: A person who wants to buy or sell securities must select a registered broker or sub broker. 

2. Opening a demat account with the depository: The next step is to open a demat account. Demat account is used to hold securities in electronic form. 

A depository is an organisation which holds securities in electronic form. At present there are two depositories in India

• NSDL (National Securities Depository Limited)

• CDSL (Central Depository Services Limited)

3. Placing the order: in this step, the person places an order with the broker to buy or sell the securities.

4. The broker then will go on-line and connect to the main stock exchange and match the share and best price available.

5. Executing the order: After receiving the order the broker will execute the order of his client. 

6. Issue of contract note: After the trade has been executed, within 24 hours the broker issues a contract note.

7. Next, the investor has to deliver the shares sold or pay cash for the shares bought.

8. Settlement: transactions of buying and selling of securities are settled following t + 2 settlement.

This means that order placed on Monday gets settled by Wednesday.

9. On the T+2 day, the exchange will deliver the share or make payment to the other broker.

10. The broker can make delivery of shares in demat form directly to the investor’s demat account.

Dematerialisation is the process by which physical certificates are converted into electronic certificates.