What is Capital Market?

Long-term capital is required for the development needs of a country and the capital market of a country fulfils these commercial development needs. Capital markets are the platform that facilitates long-term investment between individuals and business organizations (corporations and pension houses).  

 

Capital market in simple words is the intermediary between savers and investors so that productive assets are created. Long-term refers to the investment period of more than a year which means that whenever we would want to invest our assets for a period of more than a year, we would invest in the capital markets.

Understanding Capital Markets

Capital markets is a channel through which surplus of individuals is made available to industries and commercial enterprises. Imagine Reliance Jio requiring 1000 crores for the expansion of its business, then Mukesh Ambani will look up to the capital markets to get adequate funds.

 

In capital markets many retail investors put their surplus money and companies needing funds get the money for commercial purposes and in return the investors will be allotted capital market instruments of the value of their investment. Know in detail about what are capital market instruments such as equity and preference shares and the difference between equity shares and preference shares.

 

 

Features of Capital Market 

 

The features of capital market are:

 

1). Link between investors and borrowers:

The role of capital market is to link investors (individuals) with borrowers of funds (corporate houses).  It routes money from those having surplus funds to those in need of it.

 

2). Deals in medium and long-term investment:

The capital market is a platform for medium and long-term capital market instruments such as shares and debentures are traded. Since long- and medium-term capital instruments are traded it becomes a good avenue for government employees to invest in. Through this market, corporates, banks, financial institutions etc. Access long-term funds from both domestic and foreign markets.

 

3). Presence of Intermediaries:

The following intermediaries play an important role in the functioning of capital markets.

• Brokers
• Underwriters
• Merchant Bankers
• Collection Bankers

 

These intermediaries are important elements that constitute the role of the capital market in a country.  

 

4). Promotes capital formation:

The capital markets mobilize savings of households and investors by way of the issue of shares, debentures, bonds, etc. And the surplus is invested by the corporates to expand their businesses.  

 

5). Deals in marketable and non-marketable securities:

Capital market trades in both marketable and non-marketable securities. Marketable securities are securities that can be transferred. E.g., Shares, Debentures, Bonds etc. Whereas Non-Marketable securities are those which cannot be transferred. E.g., Term Deposits, Loans and Advances.

Types of Capital Market

 

There are mainly two types of capital markets in India:

• Primary Market
• Secondary Market

 

Primary Market:

This type of structure of the capital market is called the Primary market or New Issue Market because it is where new companies issue their shares for the first time. This process of issuing the shares for the first time is called Initial Public Offering (IPO). In the primary market, the buying and selling takes place between the companies and the investors.

Primary market is the market for the trading of new securities where mobilization of the funds takes place through:

• Prospectus
• Rights Issue
• Private placement of securities
• Offer for Sale
• Book Building

 

Secondary Market:

It is the platform where old or existing securities are traded. Once the shares are issued in the primary market, the further buying and selling of existing securities take place in the secondary market. In this type of structure of the capital market, the buying and selling of shares take place between investors on stock exchanges. Know about stock exchanges in detail and the list of stock exchanges in India.

There are two major types of secondary markets:

Stock Exchange: It is a centralized platform on which buying and selling of existing shares take place between buyers and sellers in a digitalized and transparent manner. The transactions on a stock exchange are regulated by SEBI and take place under checks and balances. Take a deep-dive to know about What is SEBI and its role in the capital market.

 

Over the Counter (OTC): OTC is a decentralized form of secondary market in which concerned parties deal with engage in transactions among themselves with being regulated by any authority.

Since these transactions take place within an unregulated setup, it is more prone to higher counterparty risks. Forex is a prominent example of Over-the-Counter trading.

Importance of Capital Markets  

The capital market in India plays a very important role in the industrial, commercial and overall development of the country. It can promote economic development in the following ways:

 

1). Mobilization of Savings in Productive Channels:

Many Indian household save their income which cumulates into a large part of our GDP, with the help of the capital market these savings are invested by these individuals in various long-term securities such as shares and bonds which are further channelized into productive channels by these corporations.

 

2). Foreign Investment:

Capital market provides long-term funds to corporate sector, government, banks, etc. But with these markets, companies can not only raise funds from domestic investors but also from investors across the border which gives these companies access to more funds.

 

3). Safety of Transactions:

Capital markets are organized markets, and these markets fully protect the interests of investors. Each stock market has its bylaws, and each member of the stock exchange must follow them. If any member is found violating them, his membership will be canceled.

 

4). Providing Liquidity and Marketability to Existing Securities:

The Stock Exchange is a marketplace for the purchase and sale of securities, viz., shares, bonds, debentures, etc. Various types of securities are traded here on a regular basis.

 

Whenever required, an investor can invest his money through this market in securities and can reconvert this investment into cash. The availability of a ready market for the sale and purchase of securities increases their marketability and enhances the liquidity of investment in securities.

 

5). Risk Diversification:

The investor can invest in different types of securities or can purchase units of mutual funds to diversify investment risks. The capital market provides opportunities to invest in various securities, viz., corporate securities, gilt edged securities, debentures, bonds, etc.

 

The investor can invest in new issues of securities or can purchase securities of existing companies. The investor can build a diversified portfolio by investing in securities of different industries.

To Sum Up

Thus, we can say that the capital market gives the platform for the transfer of funds from those having a surplus to those in need of funds. Capital markets play an integral role in the development of any country especially a developing country like India where the stock market is still is a taboo for many. Therefore, understanding capital market functions and the recent trends in capital market can eventually lead the country towards the path of growth.