Capital Market - Meaning, Working, Types

The Capital Market encompasses both physical and digital platforms where diverse entities engage in the exchange of various financial instruments. These arenas comprise the stock, bond, currency and foreign exchange (forex) markets.

What are Capital Markets?

How Do Capital Markets Work?

• The circular flow of money concept governs capital markets.
• Capital markets are often utilized to offer financial items such as stocks and bonds. Equities are stocks or ownership interests in a corporation. A bond, like other debt instruments, is an interest-bearing IOU.
• A company, for example, borrows money from people or families to fund its activities. Individuals or families invest money in the capital markets in a company's shares or bonds. Investors get earnings and commodities in return for their investment.
• Finance providers and buyers, as well as trading tools and methods, comprise the capital market. There are additional regulatory bodies present.

Types of Capital Markets:

Primary Markets:

• The Primary Capital Market also referred to as the 'New Issues Market,' is where companies initially offer new stocks or bonds to the public.
• Businesses and governments utilize the primary market to secure fresh financing, converting the new capital into debt or company shares.
• These securities are held until they are traded on a secondary market, repurchased by the company, or reach maturity.
• The primary market deals with two main financial instruments: equities (stocks) and debt.
• An Initial Public Offering (IPO) is the process of introducing new stocks to the market, involving selling a portion of the company to the public for capital.
• Bonds, more complex in nature, involve underwriters as intermediaries. If a company wishes to issue bonds, it goes through underwriters who sell these bonds to investors, ensuring the company receives the needed capital.

Secondary Market:

• The Secondary Capital Market is where investors trade existing debt or stocks. It contrasts with the primary market as the securities here have already been issued.
• Stock trading in the secondary market occurs through exchanges like the Bombay Stock Exchange, Calcutta Stock Exchange, or the New York Stock Exchange.
• Stock exchanges enable individuals to sell their existing stocks, leading to the 'liquidation' of these assets, resulting in cash for the seller.
• Bonds are typically held for a longer duration but can be sold in the secondary market for quick cash when needed.
• Investors use the secondary market to obtain cash, either for reinvestment in other stocks or personal consumption, involving the liquidation of assets for purchasing other items.

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Functions of the Capital Market

• The capital market acts as an intermediary, bridging the gap between individuals with surplus funds and those seeking financial resources.
• An important role of the capital market lies in supporting capital formation by timely providing funds to diverse sectors of the economy, addressing their financial requirements.
• The capital market contributes to the stability and systematic pricing of securities. Through vigilant monitoring, it prevents unproductive and speculative activities, maintaining a standardized interest rate that aids in stabilizing the overall security prices in the economy.
• It offer a plethora of financial instruments catering to the needs of investors across risk levels. Investors can leverage these opportunities to enhance their capital yields, considering the comparatively higher returns available in the capital market, albeit with associated risks.
• Trading long-term securities in the capital market is characterized by simplified processes and reduced time and cost. Automation through systems and programs expedites the entire trading procedure.
• They provide an avenue for investors to liquidate their holdings, converting them into readily available funds through third-party transactions.

Capital Market Examples