Types of Capital Market

What is Capital Market?

Capital market can be defined as a marketplace where sellers and buyers are involved in the exchange of funds in the form of bonds, equity securities, etc. The Buyers who invest their money into the market can be people, banks, and institutions. The capital market is regulated by financial organisations like SEBI (The Securities and Exchange Board of India) in India, SEC (US Securities and Exchange Commission) in the USA, etc. There are various types of capital markets, generally classified based on issuance and financial instruments.

Characteristics of a Capital Market:

1. Mid and long-term securities are traded in the Capital market.
2. The minimum maturity period of debt and stocks that are traded is 1 year.
3. Changing of savings of the investor to financial investment with high returns. So ROI(Return On Investment) is high in the capital market.
4. Stockbrokers, insurance companies, Commercial banks, underwriters, etc. are some of the investor types.
5. Higher-risk investments give high ROI (Return On Investment) and lower-risk investments give lower ROI (Return On Investment).

Types of Capital Market

I. Based on Issuance

Capital market is broadly categorised into two types, Primary Market and Secondary Market.

A. Primary Market

This is the market where a company sells its shares or bonds to the public. This is the market where new shares and securities are channelled. These are sold to the investors, and the amount raised can be used for the growth and development of the company. Issues are made in the form of Initial Public Offerings (IPO), Further Public Offer (FPO), Bonus issue, Issue of Indian Depository Receipt, etc.

Key takeaways from Primary Market:

• Buying and selling of stocks takes place between the company and the investors.
• This is the place where the savings of the investors are channelled into the economy.
• The purchasing type is direct, as the investors are directly buying from the company.

B. Secondary Market

This is the market where already shared and listed bonds, securities, and shares of the company are transacted between investors. There must exist a market system where already released new securities, shares can be transacted. Investors can sell them to other investors in these secondary markets. NSE (National Stock Exchange) and BSE (Bombay Stock Exchange) are the perfect examples of secondary markets.

Key takeaways from Secondary Market:

• Buying and selling take place between investors.
• The purchasing type is indirect, here investors buy from investors.

II. Based on Financial Instruments

A. Equity Market

This is the market where shares of the company are sold to the investors. Unlike the Debt market here there will not be regular payment from the company but a share of ownership on the company. Shareholders can even participate in voting for company decisions. Companies regularly give shares of their profit to shareholders in the form of dividends. For example, NSE (National Stock Exchange) and BSE (Bombay Stock Exchange).

Key takeaways from Equity Market:

• To buy equities, one needs to open a trading or DEMAT account.
• The other name of the Equity market is the Stock market.
• Companies raise capital by selling stocks. This capital can be used for further development or reserves.

B. Debt Market

This is the market where bonds are sold to the investors in exchange for money taken from them as a loan. The Government and companies usually sell bonds. This is an unsecured type of investment, where there is no security to the money invested if the company goes bankrupt. Bond issuers need to repay the principal amount after the maturity date and pay interest during regular intervals.

Key takeaways from the Debt Market:

• Government bonds, Corporate bonds, Municipal bonds, Inflation-indexed bonds, Fixed interest bonds, Floating interest bonds, Tax-free bonds, etc. are some of the types of bonds.
• Fixed deposits also come under the debt market, the investor invests some large amount in a financial institution. In return, the financial institution offers a guaranteed rate of interest over years on the money you invested.
• SEBI (The Securities and Exchange Board of India) is the regulatory authority that guides the debt market.
• Government bonds are considered the safest among all types of bonds and are issued by the RBI (Reserve Bank of India) representing the government.
• The amount invested in the debt market is safe from volatility.

C. Derivatives Market

This is the market for financial contracts (Derivatives), and this market involves very huge risk. Derivatives are financial instruments that derive their value from underlying assets like Stocks, bonds, etc. For example, Let’s suppose that there are two people named A and B. There exists a company named GeeksforGeeks, and the current stock price of the company is ₹50. Now, both A and B want to predict the future price movement of the stock of GeeksforGeeks company. Now, a futures contract is made where A assumes that the stock price of geeks will be ₹60 in 3 months, and B assumes that the stock price of geeks will be ₹40 in 3 months and they will buy 1000 stocks.

Scenario 1: After 3 months, if the stock price of the GeeksforGeeks company is ₹60, then A will buy 1000 shares of Geeks but for the value of ₹50. So the profit he made is (₹60 – ₹50) x 1000 = ₹10,000.

Scenario 2: After 3 months, if the stock price of the GeeksforGeeks company is ₹40, then here, also A will buy 1000 shares of Geeks but for the value of ₹40. So the loss he made is (₹50 – ₹40) x 1000 = ₹10,000. Here, B will make a ₹10,000 profit.

• Buyer (Long Position): The person who thinks the price will increase in the future (Here A).
• Seller (Short Position): The person who thinks the price will decrease in the future (Here B).

D. Exchange-Traded Fund Market

Exchange-traded funds, commonly known as ETFs, are financial instruments that can be easily traded on a stock exchange like any other securities. ETFs are a combination of mutual funds and equities of the listed company. This means that ETFs are a bundle of different classes of securities activating the feature of diversification and the flexibility of equity (stock).

Key takeaways from Exchange-Traded Fund Market:

• ETFs are index funds that can be bought in the form of stock.
• ETFs are designed to track performances of specific indexes like NIFTY 50, S&P 500, NASDAQ-100, portfolios of different stocks, portfolios of equities, portfolios of gold, portfolios of Gold, portfolios of debts, etc.
• The prices of ETFs change throughout the day as they are bought and sold throughout the market hours.
• ETFs pay dividends when they get dividends from a portfolio of stocks ETF invested in.
• ETF is a low-risk type of investment.

E. Foreign Exchange Market

This is the market where currencies are traded. This market decides the foreign exchange rates of currency, manages foreign exchange risk, etc. The main participants of this market are International Banks. The Forex market (Foreign Exchange market) is an international market where this trading happens. The main application of Foreign exchange rates occurs when companies of two different Nations make deals in imports and exports.

Key takeaways from Foreign Exchange Market:

• It is the largest market in the world, and it runs 24 hours a day and is only closed on weekends.
• There are fewer rules in this market, so investors aren’t held with so many regulations, but this also poses huge risks.
• As this market is open 24 hours a day, you can invest any time.
• It is the most liquid financial market in the world.