Financial Market Report

“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 Banks

Individuals Companies

Insurance-Companies Pension-Funds Mutual Funds

Financial Markets

Borrowers

Inter-bank

Individuals

Stock-Exchange

Companies

Money-Market

Central-Government

Bond-Market

Municipalities

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.