Module No.

04
Financial Markets and Instruments

Meaning and Definition, Role and Functions of Financial Markets, Constituents of Financial
Markets; Money Market Instruments, Capital Market and Instruments; SEBI guidelines for Listing
of Shares and Issue of Commercial Papers.

MEANING

A financial market is a market in which people and entities can trade financial securities, commodities,
and other fungible items of value at low transaction costs and at prices that reflect supply and demand.
Securities include stocks and bonds, and commodities include precious metals or agricultural goods.

DEFINITION

Financial Markets include any place or system that provides buyers and sellers the means to trade
financial instruments, including bonds, equities, the various international currencies, and derivatives.
Financial markets facilitate the interaction between those who need capital with those who have capital
to invest.

ROLE AND FUNCTIONS OF FINANCIAL MARKETS

• Facilitating savings: financial markets provide a means for people to transfer their money power
from the present to the future. For example, you can put aside some money for savings or invest in
bonds and shares to earn future interest.
• Providing loans: in the capital market, corporations or the government can issue loans and bonds
in exchange for public money. Bonds, in the case of a corporation, are loans made by an investor
to a business in need of cash for operations and growth.
• Allocating capital to more productive use: people can invest their extra cash in a business
function to collect interests instead of sitting idle in a bank account.
• Facilitating transactions: financial markets provide a way for buyers and sellers to interact and
exchange funds for their transactions.
• Providing forward markets: in forward markets, you can offer to buy a product in the future at a
pre-determined price to avoid price volatility.
• Providing a market for equities: an equity market is a market of shares. A company can sell
shares to the public in exchange for capital to grow. An individual investing in the company’s shares
can also earn a return on investment, usually in the form of dividends - a fixed amount of money
paid at a certain period provided the business performs well.

CONSTITUENTS OF FINANCIAL MARKETS

1. Capital Markets

A capital market is one in which individuals and institutions trade financial securities. Organizations and
institutions in the public and private sectors also often sell securities on the capital markets in order to
raise funds. Thus, this type of market is composed of both the primary and secondary markets.

Any government or corporation requires capital (funds) to finance its operations and to engage in its
own long-term investments. To do this, a company raises money through the sale of securities -stocks
and bonds in the company's name. These are bought and sold in the capital markets.

2. Stock Markets

Stock markets allow investors to buy and sell shares in publicly traded companies. They are one of the
most vital areas of a market economy as they provide companies with access to capital and investors
with a slice of ownership in the company and the potential of gains based on the company's future
performance.

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This market can be split into two main sections: the primary market and the secondary market. The
primary market is where new issues are first offered, with any subsequent trading going on in the
secondary market.

3. Bond Markets

A bond is a debt investment in which an investor loans money to an entity (corporate or governmental),
which borrows the funds for a defined period of time at a fixed interest rate. Bonds are used by
companies, municipalities, states and U.S. and foreign governments to finance a variety of projects and
activities. Bonds can be bought and sold by investors on credit markets around the world. This market
is alternatively referred to as the debt, credit or fixed-income market. It is much larger in nominal terms
that the world's stock markets. The main categories of bonds are corporate bonds, municipal bonds,
and U.S. Treasury bonds, notes and bills, which are collectively referred to as simply "Treasuries."

4. Money Market

The money market is a segment of the financial market in which financial instruments with high liquidity
and very short maturities are traded. The money market is used by participants as a means for
borrowing and lending in the short term, from several days to just under a year. Money market securities
consist of negotiable certificates of deposit (CDs), banker's acceptances, U.S. Treasury bills,
commercial paper, municipal notes, eurodollars, federal funds and repurchase agreements (repos).
Money market investments are also called cash investments because of their short maturities.

The money market is used by a wide array of participants, from a company raising money by selling
commercial paper into the market to an investor purchasing CDs as a safe place to park money in the
short term. The money market is typically seen as a safe place to put money due the highly liquid nature
of the securities and short maturities. Because they are extremely conservative, money market
securities offer significantly lower returns than most other securities.

However, there are risks in the money market that any investor needs to be aware of, including the risk
of default on securities such as commercial paper.

5. Cash or Spot Market

Investing in the cash or "spot" market is highly sophisticated, with opportunities for both big losses and
big gains. In the cash market, goods are sold for cash and are delivered immediately. By the same
token, contracts bought and sold on the spot market are immediately effective. Prices are settled in
cash "on the spot" at current market prices. This is notably different from other markets, in which trades
are determined at forward prices.

The cash market is complex and delicate, and generally not suitable for inexperienced traders. The
cash markets tend to be dominated by so-called institutional market players such as hedge funds,
limited partnerships and corporate investors. The very nature of the products traded requires access to
far-reaching, detailed information and a high level of macroeconomic analysis and trading skills.

6. Derivatives Markets

The derivative is named so for a reason: its value is derived from its underlying asset or assets. A
derivative is a contract, but in this case the contract price is determined by the market price of the core
asset. If that sounds complicated, it's because it is. The derivatives market adds yet another layer of
complexity and is therefore not ideal for inexperienced traders looking to speculate. However, it can be
used quite effectively as part of a risk management program.

Examples of common derivatives are forwards, futures, options, swaps and contracts-for- difference
(CFDs).

7. Forex and the Interbank Market

The interbank market is the financial system and trading of currencies among banks and financial
institutions, excluding retail investors and smaller trading parties. While some interbank trading is

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performed by banks on behalf of large customers, most interbank trading takes place from the banks'
own accounts.

The forex market is where currencies are traded. The forex market is the largest, most liquid market in
the world with an average traded value that exceeds $1.9 trillion per day and includes all of the
currencies in the world. The forex is the largest market in the world in terms of the total cash value
traded, and any person, firm or country may participate in this market.

There is no central marketplace for currency exchange; trade is conducted over the counter. The forex
market is open 24 hours a day, five days a week and currencies are traded worldwide among the major
financial centers of London, New York, Tokyo, Zürich, Frankfurt, Hong Kong, Singapore, Paris and
Sydney.

8. Primary Markets vs. Secondary Markets

A primary market issues new securities on an exchange. Companies, governments and other groups
obtain financing through debt or equity based securities. Primary markets, also known as "new issue
markets," are facilitated by underwriting groups, which consist of investment banks that will set a
beginning price range for a given security and then oversee its sale directly to investors.

The primary markets are where investors have their first chance to participate in a new security
issuance. The issuing company or group receives cash proceeds from the sale, which is then used to
fund operations or expand the business.

The secondary market is where investors purchase securities or assets from other investors, rather
than from issuing companies themselves. The Securities and Exchange Commission (SEC) registers
securities prior to their primary issuance, then they start trading in the secondary market on the New
York Stock Exchange, Nasdaq or other venue where the securities have been accepted for listing and
trading.

The secondary market is where the bulk of exchange trading occurs each day. Primary markets can
see increased volatility over secondary markets because it is difficult to accurately gauge investor
demand for a new security until several days of trading have occurred. In the primary market, prices
are often set beforehand, whereas in the secondary market only basic forces like supply and demand
determine the price of the security.

9. The OTC Market

The over-the-counter (OTC) market is a type of secondary market also referred to as a dealer market.
An over-the-counter (OTC) market is a decentralized market—meaning it does not have physical
locations, and trading is conducted electronically—in which market participants trade securities directly
between two parties without a broker. While OTC markets may handle trading in certain stocks (e.g.,
smaller or riskier companies that do not meet the listing criteria of exchanges), most stock trading is
done via exchanges. Certain derivatives markets, however, are exclusively OTC, and so they make
up an important segment of the financial markets. Broadly speaking, OTC markets and the
transactions that occur on them are far less regulated, less liquid, and more opaque.

10. Third and Fourth Markets

You might also hear the terms "third" and "fourth markets." These don't concern individual investors
because they involve significant volumes of shares to be transacted per trade. These markets deal with
transactions between broker-dealers and large institutions through over-the- counter electronic
networks. The third market comprises OTC transactions between broker- dealers and large institutions.

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The fourth market is made up of transactions that take place between large institutions. The main reason
these third and fourth market transactions occur is to avoid placing these orders through the main
exchange, which could greatly affect the price of the security. Because access to the third and fourth
markets is limited, their activities have little effect on the average investor.

Financial institutions and financial markets help firms raise money. They can do this by taking out a loan
from a bank and repaying it with interest, issuing bonds to borrow money from investors that will be
repaid at a fixed interest rate, or offering investors partial ownership in the company and a claim on its
residual cash flows in the form of stock.

MONEY MARKET INSTRUMENTS

Financial instruments with short term maturity up to 1 year, used as tools for raising capital by the issuer
are known as money market instruments.

These are debt securities that offer a fixed interest rate and are generally unsecured. There is no
collateral backing up the security, and the risk of non-repayment is theoretically high. However, money
market instruments have a high credit rating ensuring that issuers don't default, which makes them a
go-to avenue for investors looking for options to park their money for the short term and earn fixed
returns on the same.

Features of Money Market Instruments

1. High Liquidity: One of the key features of these financial assets is high liquidity offered by them.
They generate fixed-income for the investor and short term maturity make them highly liquid. Owing
to this characteristic money market instruments are considered as close substitutes of money.

2. Secure Investment: These financial instruments are one of the most secure investment avenues
available in the market. Since issuers of money market instruments have a high credit rating and
the returns are fixed beforehand, the risk of losing your invested capital is minuscule.

3. Fixed returns: Since money market instruments are offered at a discount to the face value, the
amount that the investor gets on maturity is decided in advance. This effectively helps individuals
in choosing the instrument which would suit their needs and investment horizon.

The Purpose of a Money Market

1. Maintains Liquidity in the Market : One of the most crucial functions of the money market is to
maintain liquidity in the economy. Some of the money market instruments are an important part of
the monetary policy framework, RBI uses these short-term securities to get liquidity in the market
within the required range.

2. Provides Funds at a Short Notice : Money Market offers an excellent opportunity to individuals,
small and big corporations, banks of borrowing money at very short notice. These institutions can
borrow money by selling money market instruments and finance their short-term needs.
It is better for institutions to borrow funds from the market instead of borrowing from banks, as
the process is hassle-free and the interest rate of these assets is also lower than that of
commercial loans. Sometimes, commercial banks also use these money market instruments to
maintain the minimum cash reserve ratio as per the RBI guidelines.

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3. Utilisation of Surplus Funds : Money Market makes it easier for investors to dispose off their
surplus funds, retaining their liquid nature, and earn significant profits on the same. It facilitates
investors' savings into investment channels. These investors include banks, non-financial
corporations as well as state and local government.

4. Aids in Financial Mobility: Money Market helps in financial mobility by allowing easy transfer of
funds from one sector to another. This ensures transparency in the system. High financial mobility
is important for the overall growth of the economy, by promoting industrial and commercial
development.

5. Helps in monetary policy: A developed money market helps RBI in efficiently implementing
monetary policies. Transactions in the money market affect short term interest rate, and short-term
interest rates gives an overview of the current monetary and banking state of the country. This
further helps RBI in formulating the future monetary policy, deciding long term interest rates, and a
suitable banking policy.

Types of Money Market Instruments:

1. Treasury Bills (T-Bills)

Treasury bills or T- Bills are issued by the Reserve Bank of India on behalf of the Central Government
for raising money. They have short term maturities with highest upto one year. Currently, T-Bills are
issued with 3 different maturity periods, which are, 91 days T-Bills, 182 days T- Bills, 1 year T-Bills.

T-Bills are issued at a discount to the face value. At maturity, the investor gets the face value amount.
This difference between the initial value and face value is the return earned by the investor. They are
the safest short term fixed income investments as they are backed by the Government of India.

2. Commercial Papers

Large companies and businesses issue promissory notes to raise capital to meet short term business
needs, known as Commercial Papers (CPs). These firms have a high credit rating, owing to which
commercial papers are unsecured, with company's credibility acting as security for the financial
instrument.

Corporates, primary dealers (PDs) and All-India Financial Institutions (FIs) can issue CPs.

CPs have a fixed maturity period ranging from 7 days to 270 days. However, investors can trade this
instrument in the secondary market. They offer relatively higher returns compared to that from treasury
bills.

3. Certificates of Deposits (CD)

CDs are financial assets that are issued by banks and financial institutions. They offer fixed interest rate
on the invested amount. The primary difference between a CD and a Fixed Deposit is that of the value
of principal amount that can be invested. The former is issued for large sums of money (1 lakh or in
multiples of 1 lakh thereafter).

Because of the restriction on minimum investment amount, CDs are more popular amongst
organizations than individuals who are looking to park their surplus for short term, and earn interest on
the same. The maturity period of Certificates of Deposits ranges from 7 days to 1 year, if issued by
banks, Other financial institutions can issue a CD with maturity ranging from 1 year to 3 years.

4. Repurchase Agreements

Also known as repos or buybacks, Repurchase Agreements are a formal agreement between two
parties, where one party sells a security to another, with the promise of buying it back at a later date
from the buyer. It is also called a Sell-Buy transaction.

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The seller buys the security at a predetermined time and amount which also includes the interest rate
at which the buyer agreed to buy the security. The interest rate charged by the buyer for agreeing to
buy the security is called Repo rate. Repos come-in handy when the seller needs funds for short- term,
s/he can just sell the securities and get the funds to dispose. The buyer gets an opportunity to earn
decent returns on the invested money.

5. Banker's Acceptance

A financial instrument produced by an individual or a corporation, in the name of the bank is known as
Banker's Acceptance. It requires the issuer to pay the instrument holder a specified amount on a
predetermined date, which ranges from 30 to 180 days, starting from the date of issue of the instrument.
It is a secure financial instrument as the payment is guaranteed by a commercial bank.

Banker's Acceptance is issued at a discounted price, and the actual price is paid to the holder at
maturity. The difference between the two is the profit made by the investor.

Introduction of Capital Market

A capital market is a financial market in which investors buy and sell financial securities, such as stocks
and bonds. These transactions take place through various exchanges. A stock market, for example, is
an exchange where stock brokers and traders buy and sell stocks of public companies. A bond market
is an exchange where traders buy and sell bonds issued by corporations, governments, or other entities.

What are the Instruments Traded in the Capital Market?

In the capital market, five types of instruments are traded. They are explained below.

Equities

Equities refer to the money invested in an organization by purchasing shares in the stock market.

1. Equity Shares: Equity shares are part ownership where the shareholders are fractional owners
and initiate the maximum entrepreneurial liability related to a trading concern. Equity
shareholders reserve the right to vote. However, holders of this instrument rank bottom on the
scale of preference in the event of company liquidation because they are considered owners of
the enterprise.
2. Preference Shares: Preference shares are issued by corporate bodies, and on the scale of
preference, the investors rank second when the company goes under. These shares are often
treated as debt instruments as they do not confer voting rights to the holders. They also have
a dividend payment structured like a coupon or interest paid for bond issues.

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Debt Securities

Debt securities are financial assets entitling the owners to a stream of interest payments. Borrowers
must repay the principal borrowed and are classified into bonds and debentures.

1. Bonds: Bonds are fixed-income instruments primarily issued by the state and center
governments, municipalities, and organisations for financing infrastructural development and
other projects. It is referred to as a loaning capital market instrument, and the bond issuer is the
borrower. Typically, bonds carry a fixed lock-in period, and on the maturity date, bond issuers
must repay the principal amount to the bondholders.
2. Debentures: Debentures are unsecured investment options and not backed by any collateral.
The lending is based on mutual trust. Investors act as potential creditors of the issuing company
or institution.

Derivatives

Derivatives are capital market financial instruments. Their values are determined by underlying assets
like stocks, currency, stock indexes and bonds. The most common types of derivative instruments are:

• Forward: It is a contract between two parties in which the exchange occurs at the end of the
contract at a specific price.
• Future: It is a derivative transaction involving the exchange of derivatives on a determined
future date at a predetermined price.
• Options: It is an agreement between two parties. Here, the buyer has to right to buy or sell a
specific number of derivatives at an exact price for a particular period.
• Interest Rate Swap: An agreement between two parties involving swapping interest rates. Both
parties must agree to pay each other interest rates on their loans in different options, currencies,
and swaps.

OR
Shares

The ownership capital of a company is divided into a number of indivisible units of a fixed
amount. These units are known as shares As per Section 43 of the Companies A 2013, the share
capital of a company limited by shares shall be of two kinds, namely Equity share capital and Preference
share capital.

Equity Shares

• The purpose of equity instruments issued by corporations is to raise funds for the firms.
• It is equity ownership that allows the holders of this stock to enjoy voting rights on corporate matters.
• However, in case the company suffers heavy losses and ends up bankrupt, the holders of the
common stock are the last ones to get their money back after creditors, bondholders, and holders
of preferred stock.

Preference shares

• Preference shares are also a type of shares issued by a company that provides a predetermined
dividend to the holder unlike dividend to equity share holder where shareholder gets dividend as
per the profit earned.
• Although dividend on the preferred stock are larger but they do not get voting power on the company
matters.
• In case of liquidation of company, preference shareholders get to redeem their shares before the
holders of the common stock.

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Sweat equity shares

• Sweat equity shares are equity shares issued by a company to its employees or directors at a
discount, or as a consideration for providing know-how or a similar value to the company.
• Sweat equity is a form of compensation by the business to their owners and employees. It is
recognition of a partner's contribution to a project in the form of effort while financial equity is the
contribution in the form of capital.

Debt instruments

A debt instrument is used by either companies or governments to generate funds for capital-intensive
projects that can be obtained either through the primary or secondary market. The relationship in this
form of instrument ownership is that of a borrower – creditor and thus, does not necessarily imply
ownership in the business of the borrower. The contract is for a specific duration and interest is paid at
specified periods. Types of Debt Instruments are of different types like Bonds, Debentures and
Government Securities (G - Secs) etc.

Debentures
A debenture is a long-term debt instrument used by governments and large companies to obtain funds.
It is a certificate of agreement of loans which is given under the company's stamp and carries an
undertaking that the debenture holder will get a fixed return (fixed on the basis of interest rates) and the
principal amount whenever the debenture matures. In contrast to equity capital, which is a variable
income security, the debentures are fixed income (i.e. in respect of interest) security with no voting
rights. Debentures are generally freely transferrable by the debenture holder.

Bonds
Bonds are debt instrument, that are issued by companies and government. Major issuers of bonds are
governments (Treasury bonds in US, gilts in the UK, Bunds in Germany) and firms, which issue
corporate bonds. Some corporate bonds are secured against assets of the company that issued them,
whereas other bonds are unsecured. By purchasing a bond, an investor lends money for a fixed period
of time at a predetermined interest rate. During this period of time, investor receive a regular payment
of interest semi-annually or annually. Issuing a bond increase the debt burden of the bond issuer
because contractual interest payments must be paid to the borrowers.
Bonds can be of following types:

• Government Bonds
• Municipal Bonds
• Institutions Bonds
• Corporate Bonds

The yield on bonds are expressed commonly in two forms:

1. Interest yield (or running yield) - The return on a bond taking account only of the coupon
payments.

2. Yield to maturity (or redemption yield)- The return on a bond taking account of the coupon
cash flows and the capital gain or loss at redemption.

Debt markets include:

1. Primary markets for bonds, i.e. the markets in which newly issued instruments are bought,
2. Secondary markets , in which existing or second hand instruments are traded.

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Green Bond

• The capital for green bond is raised to fund ‘green’ projects like renewable energy, emission
reductions etc.
• First Green Bond was issued by World Bank in 2007.
• The first ever green bond was issued by multilateral institutions (European Investment Bank
and World Bank) in 2007.
• The first green bond in India was issued by Yes Bank in
• In 2015, EXIM bank launched India’s first dollar denominated green bond of $500 million.
• Indian Renewable Energy Development Agency Ltd has issued bonds to finance renewable
energy without the tag of green bonds.
• India has become the seventh largest green bond market in the world.
• In January 2016, SEBI also released first Green Bond guidelines relating to listings, norms
for raising money etc.
• According to SEBI, a bond shall be considered green bond if the funds raised through it will be
used for renewable and sustainable energy including wind, solar, bio-energy, other sources of
energy which use clean technology.
• Banks have also been permitted to issue green masala bonds.
• Rural Electrification Corporation’s first green bond has opened up for trading at the London
Stock Exchange.
• It is a Climate Bonds Initiative certified green bond.
• The proceeds of the bond shall be used to fund environment friendly projects in India such as
solar, wind
• and biomass assets, as well as sustainable water and waste management projects.
• Through listing at the LSE, the PSU hopes to reach out to a new investor base.

Blue Bonds

• The upcoming year will witness the first ‘blue bond’ issuance in India.
• As per Smart cities initiative, municipal bond market will be refueled for water supply projects
(a category of Blue Blonds) in cities like Pune and Hyderabad.
• It is a type of green bond which specifically invests in climate resilient water management and
water infrastructure.

Masala Bonds

• Masala bonds are rupee-denominated bonds issued by Indian entities in the overseas market
to raise funds.
• As of now, it is being traded only at the London Stock exchange.
• Masala bonds have been named so by the International Finance Corporation (IFC), an
investment arm of the World Bank which issued these bonds to raise money for infrastructure
projects in India.
• They protect investors from exchange rate fluctuations as opposed to external commercial
borrowing (ECB) that have to be raised and repaid in dollar.
• The Union Minister of Road Transport & Highways and Shipping launched the NHAI Masala
Bond (NHAI) issue at the London Stock Exchange.

Sovereign Gold Bond Scheme

• Sovereign Gold Bonds are government securities denominated in physical gold.

• Gold bonds are tradable on the stock exchange and can be held in both physical or demat form.
• It is issued by the RBI on behalf of the Government of India
• These bonds carry sovereign guarantee both on the capital invested and the interest.

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How are Bonds different to Debentures?

• Bonds are more secured compared to debentures. A guaranteed interest rate is paid on the
bonds that does not change in value irrespective of the profit earned by the company.
• Bonds are more secure than debentures. The company provides collateral for the loan.
Moreover, in case of liquidation, bondholders will be paid off before debenture holders.
• In case of bankruptcy, Debenture holders have no collateral that a holder can claim from the
company. To compensate for this, companies pay higher interest rates to debenture holders,
compared to Bond holders.

Government Securities Government securities, popularly known as G-Secs, are issued by Reserve
Bank of India (RBI) on behalf of the central or state governments to finance fiscal deficit. These
securities are absolutely risk-free and guaranteed by the government.

Derivative instruments
A derivative instrument is whose value is derived from the value of one or more underlying assets which
can be commodities, precious metals, currency, bonds, stocks, stock indices, etc. Forwards, Futures,
Options and Swaps are four most common examples of derivative instruments. The purpose of these
securities is to give producers and manufacturers the possibility to hedge risks. By using derivatives
both parties agree on a sale at a specified price at a later date.
Derivatives market can be divided into two as follows:

1. Exchange-traded derivatives
2. Over-the-counter derivatives.

Forwards and futures These are financial contracts that obligate the contracts’ buyers to purchase an
asset at a pre-agreed price on a specified future date. Both forwards and futures are essentially the
same in their nature. However, forwards are more flexible contracts because the parties can customize
the underlying commodity as well as the quantity of the commodity and the date of the transaction. On
the other hand, futures are standardized contracts that are traded on the exchanges. Every futures
contract has the following features:

• Buyer
• Seller
• Price
• Expiry

Options

• Options contracts are instruments that give the holder of the instrument the right to buy or sell
the underlying asset at a predetermined price.
• An option can be a 'call' option or a 'put' option.
• A call option gives the buyer, the right to buy the asset at a given price. This 'given price' is
called 'strike price'.
• Similarly, a 'put' option gives the buyer a right to sell the asset at the 'strike price' to the buyer.
• Here the buyer of the contract has the right to sell and the seller has the obligation to buy.
• So, in any options contract, the right to exercise the option is vested with the buyer of the
contract. The seller of the contract has only the obligation and no right.
• As the seller of the contract bears the obligation, he is paid a price called
as 'premium'. Therefore, the price that is paid for buying an option contract is called
as premium.
• The buyer of a call option will not exercise his option (to buy) if, on expiry, the price of the asset
in the spot market is less than the strike price of the call.

For eg: A bought a call at a strike price of Rs 500. On expiry the price of the asset is Rs 450. A will not
exercise his call. Because he can buy the same asset from the market at Rs 450, rather than paying
Rs 500 to the seller of the option. The buyer of a put option will not exercise his option (to sell) if, on
expiry, the price of the asset in the spot market is more than the strike price of the call. For eg: B bought

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a put at a strike price of Rs 600. On expiry the price of the asset is Rs 619. A will not exercise his put
option. Because he can sell the same asset in the market at Rs 619, rather than giving it to the seller
of the put option for Rs 600.

Swaps
Swap refers to an exchange of one financial instrument for another between the parties concerned.
This exchange takes place at a predetermined time, as specified in the contract. Swaps are not
exchange oriented and are traded over the counter, usually the dealing are oriented through banks.
Currency swaps and interest rates swaps are the two most common kinds of swaps traded in the
market. CEO: Great, I didn’t know we can issue that many types of instruments, now I can analyze
what instrument will be best suitable for our funding needs. So, this turned out to be a huge market. Is
there any authority who oversee the activities of all institutions running there? Expert: Yes, there are
many authorities, that have been awarded with the power to regulate the activities of Capital market.
Let’s have a look at it in detail.

Regulation of Capital Market

The securities market is regulated by various agencies such as the Department of Economic Affairs
(DEA), The Department of company affairs (DCA), the Reserve Bank of India and the SEBI. The
activities of these agencies are coordinated by a high level committee on capital and financial markets.
The capital market for equity and debt securities is regulated by the Securities and Exchange Board of
India. The SEBI has full autonomy and authority to regulate and develop the capital market. The
government has framed rules under the Securities Contracts Act (SCRA), the SEBI Act and the
Depositories Act. The power in respect of the contracts for sales and purchase of government securities,
money market securities and ready forward contracts in debt securities are exercised concurrently by
the RBI.

The four main legislations governing the capital market are as follows:

1. The SEBI Act, 1992 which establishes the SEBI with four-fold objectives of protection of the
interests of investors in securities, development of the securities market, regulation of the
securities market and matter connected therewith and incidental thereto.

2. The Companies Act, 1956 which deals with issue, allotment and transfer of transfer of
securities, disclosures to be made in public issues, underwriting, rights and bonus issues and
payment of interest and dividends.
3. The Securities Contracts Regulation Act, 1956 which provides for regulations of securities
trading and the management of stock exchanges.
4. The Depositories Act, 1996 which provides for establishment of depositories for electronic
maintenance and transfer of ownership of demat securities.

PRIMARY MARKET AND SECONDARY MARKET

When a company publicly sells new stocks and bonds for the first time, it does so in the primary capital
market. This market is also called the new issues market. In this market, instruments of security market
are traded (procured) directly between the capital raiser and the instrument purchaser. It facilitates the
transfer of investible funds from savers to entrepreneurs seeking to establish new enterprises or to
expand existing ones through the issue of securities for the first time. The investors in this market are
banks, financial institutions, insurance companies, mutual funds and individuals. Funds raised may be
used for setting up new projects, expansion, diversification, modernisation of existing projects, mergers
and takeovers etc. A company can raise capital through the primary market in the form of equity shares,
preference shares, debentures, bonds and deposits. The new issue takes the form of an Initial Public
Offering (IPO) or a Further Public Offer (FPO). An IPO is the process through which a company for the
first time offers equity to investors and becomes a publicly-traded company. An FPO is a process by
which already listed companies offer fresh equity in the company. Companies use FPOs to raise
additional funds from the general public.

Methods of Floatation The newly issued instrument in the Market can be floated through one of the
various methods:

GOVIND D
BBA 4TH SEM
Offer through Prospectus: Under this method for the purpose of information to the general public
company issues a prospectus. Prospectus contains information about the company such as the purpose
for which funds are being raised, past financial performance of the company, background and future
prospects of company. This information helps the general public to decide whether to invest or not in
this company.
Offer for Sale: Under this method securities are not issued directly to the public but are offered for sale
through intermediaries like issuing houses or stock brokers.
Private Placement: Private placement is the allotment of securities by a company to institutional
investors and some selected individuals. It helps to raise capital more quickly than a public issue.
Rights Issue: This is a privilege given to existing shareholders to subscribe to a new issue of shares
according to the terms and conditions of the company. The shareholders are offered the ‘right’ to buy
new shares in proportion to the number of shares they already possess.
e-IPOs: A company proposing to issue capital to the public through the on-line system of the stock
exchange has to enter into an agreement with the stock exchange. This is called an E- Initial Public
Offer (IPO).

SECONDARY MARKET

The secondary market is also known as the stock market or stock exchange. It is a market for the
purchase and sale of existing securities. It helps existing investors to disinvest and fresh investors to
enter the market. It also provides liquidity and marketability to existing securities. It also contributes to
economic growth by channelising funds towards the most productive investments through the process
of disinvestment and reinvestment.

SEBI GUIDELINES FOR LISTING OF SHARES

The Securities and Exchange Board of India (SEBI) is the most important department which regulates
securities markets in India. SEBI is a regulatory body known worldwide. It has the ability to impose fines
on someone who has violated guidelines.

General SEBI guidelines:

• Directors, promoters, and other KMPs must be associated with any other company in a similar
role.
• Directors, promoters and other members who have control of the company must be debarred from
accessing the primary market.
• The application to the list of company’s shares should be filed with a recognised stock exchange
in India.
• The organisation must not get into legal contracts with a depository.
• The equity shares that are partly paid-up must be fully paid up.
• 50% of the Board of directors can be independent investors.
• Directors or promoters must not be guilty of the economic offence.
• The promoters or the company directors should not be wilful defaulters.
• The issuer of a company should disclose the number of shares to SEBI by the time of issue of
specified securities.
• A company has to submit a draft offer document to the regional office of SEBI, in case a company
wants to go for a public issue of more than 100 crore.

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BBA 4TH SEM
Advantages of listing on the stock exchange to the corporation and its shareholders are:

• The ability to sell shares on the stock exchange makes people more willing to invest in the
company.
• Investors may accept a lower return on the shares and the company can raise capital more
cheaply.
• Stock exchange provides a market price for the shares, and forms basis for valuation of a
company.
• The information aids corporate governance, allows monitoring the management of the
company.
• Listing makes takeover bids easier, since the predator company is able to buy shares on the
stock market.
• The increased transparency may reduce the cost of capital.

However, there are several disadvantages of listing, which include:

• Listing on the stock exchange is costly for the company.

• It requires a substantial amount of documentation to be prepared, e.g. audited and prepared
according to Indian Financial Reporting Standards.
• It increases transparency, which may cause problems in terms of market competition and in
takeover cases.

ISSUE OF COMMERCIAL PAPERS

Commercial paper is an unsecured, short-term debt instrument issued by corporations. It's typically
used to finance short-term liabilities such as payroll, accounts payable, and inventories. Commercial
paper is usually issued at a discount from face value. It reflects prevailing market interest rates.

GOVIND D
BBA 4TH SEM