What is Capital Market
What is Capital Market
The capital market is a market for financial instruments that are long-term in nature. This market provides a platform for borrowing and lending funds for more than one year. Thus, the capital market differs from the money market, which deals in financial instruments with a tenure of one year or less.
A capital market is a market in which long-run investment instruments like stocks and corporate and government bonds are traded. These markets help in raising capital for companies. Capital markets are large, decentralized, and active. In the capital market, investors directly purchase shares in companies. These markets use both primary and secondary techniques to raise funds. It is a market for equity and debt instruments. In addition, this market provides a platform for selling and purchasing long-term securities.
The capital market can be further classified into primary and secondary markets. The primary market is where the securities are offered for the first time. The secondary market is where the securities are traded after being provided in the primary market.
Primary Market
A primary market is a market where new securities are issued. The primary market is where initial public offerings (IPOs) are first offered to the public. Large corporations usually offer IPOs to raise capital to expand their businesses, but smaller companies can also go public. After a company goes public, its shares are traded on the secondary market—the stock exchange. The company does not receive any more money from the secondary market trading of its shares.
The primary market is vital to the economy because it provides companies with the capital they need to grow and create jobs. It is also where investors can get in on the ground floor of promising new companies.
Initial public offerings (IPOs) are the most well-known type of primary market transaction. In an IPO, a company sells shares of itself to the public for the first time. IPOs are usually done by larger companies looking to raise money to expand their businesses.
IPOs are underwritten by investment banks, which help the company, determine the price of the shares and market the offering to potential investors. The investment banks also help to ensure that there is enough demand for the shares so that they can be sold at the offering price.
The primary market is also where government bonds are first sold. The government sells bonds in the primary market when it wants to borrow money. The bonds are then traded in the secondary market.
Secondary Market
The secondary market is where most securities are traded. The secondary market is where investors trade stocks, bonds, and other securities that have already been issued. The term “secondary market” is often used to refer to the stock market, where shares of publicly traded companies are bought and sold. The secondary market is vital to the economy because it provides liquidity—the ability to buy and sell securities quickly and easily.
The secondary market is also where investors can get the best price for their securities. When a company first sells shares in the primary market, the investment banks that underwrite the offering set the price. After the shares start trading in the secondary market, the price is determined by supply and demand.
The secondary market is essential because it provides liquidity—the ability to buy or sell an asset quickly and at a fair price. When you buy a stock, for example, you are usually buying it from another investor, not the company itself. That investor may have purchased the stock months or years ago and is now selling it to you. As a result, finding buyers and sellers for your shares would be much more challenging without a secondary market. And if you did find a buyer or seller, you might have to accept a much lower price than you wanted or pay a much higher price than you wanted.
The secondary market is also essential because it sets the price of a security. If a company’s shares are trading for BDT 20 each, that’s the price you’ll pay if you want to buy shares of that company. The laws of supply and demand determine the price: If more people want to buy the shares than sell them, the price will go up. The price will decrease if more people want to sell the shares than buy them.
Functions of Capital Market
The main functions of capital markets can be summarized as follows:
1) Allocation of savings: Capital markets channel savings from those who have spare cash into productive investments, such as businesses or infrastructure projects. This allocation of funds helps to drive economic growth and improve living standards.
2) Price discovery: Capital markets provide a mechanism for setting prices for securities based on the collective views of buyers and sellers. This price discovery process helps ensure that investments are made following their actual underlying value.
3) Risk management: Capital markets enable investors to spread their risk by investing in a diversified range of assets. This diversification reduces the overall risk faced by an investor and makes it easier to manage.
4) Liquidity: Capital markets provide a high degree of liquidity, which means that securities can be bought and sold quickly and easily. This liquidity makes it easy for investors to take advantage of opportunities as they arise and helps ensure that prices accurately reflect underlying conditions.
Main Participants in Capital Markets
The participants in a capital market can be divided into three groups: issuers, investors, and intermediaries.
Issuers are the companies or governments that issue securities. They do this to raise money to finance their operations or projects. For example, a company might issue shares of stock to raise money to build a new factory. Or, a government might issue bonds to finance the construction of a new highway.
Investors are the people who buy securities from issuers in the primary market or from other investors in the secondary market. They do this to earn a return on their investment, either in the form of interest payments (for bonds), in the form of dividends (for stocks), or both.
Intermediaries are the financial institutions that facilitate transactions between issuers and investors. They include investment banks, brokerages, and mutual funds. Investment banks help issuers raise money by underwriting new securities issues and selling them to investors. Brokerages provide a platform for investors to buy and sell securities with each other in the secondary market. Finally, mutual funds pool money from many investors and then use it to buy a portfolio of securities on their behalf.
Difference between Money Market and Capital Market
A money market is a financial market for trading short-term debt instruments. Money market instruments have maturities of less than one year. Money market deals in short-term borrowing and lending of money. It provides short-term financing for commercial banks, corporations, financial institutions, and other financial market participants. No restrictions exist on who can invest in the money markets and mutual funds. Investors and lenders must know that the money market’s risk differs from other financial needs. The danger in the money market is usually low because most of the investors in the money market are looking at a maturity of less than a year.
The capital market is the market for long-term debt and equity instruments. Capital market instruments have maturities of more than one year. The capital market is a financial market segment in which long-term debt and equity instruments are traded.
For example, if I want to invest my BDT 50,000 for one month and get 4% interest, I would place that BDT 50,000 in a money market instrument. However, if I am willing to invest for a longer duration, say a year, I will invest in a capital market instrument.
The main difference between the money and capital markets is the maturity of the instruments traded in each market. The money market deals in short-term debt instruments, while the capital market deals in long-term debt and equity instruments.
Conclusion
The capital market plays a pivotal role in the economic development of a country. It provides the long-term funds that are required for investments in infrastructural development, research, development, etc. The capital market also provides the exit route for the investors who want to exit their investment. The capital market is an essential source of revenue for the government. The government raises funds for its various developmental activities by selling bonds in the capital market. The capital market is also an essential source of funds for the corporate sector. The companies raise funds for their various expansion and investment activities by selling shares in the capital market.