A market where buyer and seller come together for trading long term securities is called a capital market. Securities like stocks and bonds are sold and bought by various institutions, companies, etc.
It is often considered an effective medium to serve as a pathway for entities having a surplus fund to be transferred to the ones who need capital for their own usage. Such companies then utilise these funds in multiple ways into productive areas.
Since these securities are long-term, they are likely to remain with the buyer for a year at least.
The types of capital market instruments are broadly classified into two types -
These shares are the prime source of finance for a public limited or joint-stock company. When individuals or institutions purchase them, shareholders have the right to vote and also benefit from dividends when such organisation makes profits. Shareholders, in such cases, are regarded as the owners of a company since they hold its shares.
These are the secondary sources of finance for a public limited company. As the name suggests, holders of such shares enjoy exclusive rights or preferential treatment by that company in specific aspects. They are likely to receive their dividend before equity shareholders. However, they do not have any voting rights typically.
It is a fixed income instrument, primarily issued by sovereign and state governments, municipalities, and even companies to finance infrastructural development and other types of projects. It can be viewed as a loaning instrument, where a bond’s issuer is the borrower.
Bondholders are considered as creditors concerning such an entity and are entitled to periodic interest payment. Furthermore, bonds carry a fixed lock-in period. Therefore, issuers of bonds are mandated to repay the principal amount on the maturity date to bondholders.
Unlike bonds, debentures are unsecured investment options. Consequently, they are not backed by any asset or collateral. Here, lending is entirely based on mutual trust and, herein, investors act as potential creditors of an issuing institution or company.
All these four instruments are parts of the capital market. Since each is unique and has distinguishing features, they are useful in different ways for a company. Therefore, it is crucial to understand the different type of capital market instruments so that you can acknowledge their purposes.
Irrespective of the capital market and its types, their functions are similar. These are listed below -
Enhance trading of securities
Provides a common platform to both investors and savers
Accumulation of capital for companies that need them
Stimulates economic growth
It improves the process of allocation of capital
Prepares for continuity of funds availability
It reduces information and transaction charges significantly.
Faster valuation of securities.
Provides proper channelling of funds to be used productively.
Therefore, the capital market is an effective medium for mobilising funds between investors and sellers. With the functions listed above, it is evident that the capital market is not only a platform for fund transfer but also has its long term advantages.
It is useful in boosting national incomes, thereby enhancing the overall economic growth of a nation as a whole. As a result, you will need to understand the concepts from the grassroots to get an in-depth idea of a capital market meaning and types, functions and significance.
The types of capital market – primary and secondary are essential to understand for Commerce students. Additionally, there are other divisions of capital market based on the traded security type - bond market and the stock market.
Herein, we will focus on the former division of capital market types - primary and secondary markets.
Herein, the trading takes place for new securities. Companies go public for the first time in this market that allows entities outside the locus of an organisation to purchase their shares. This phenomenon is called Initial Public Offering or IPO.
Between the types of capital markets, it deals with securities that have already been traded in the primary market. New York Stock Exchange (NYSE), Bombay Stock Exchange (BSE), National Stock Exchange (NSE), etc. are secondary markets.
To understand these clearly, students should grow an understanding of the types of capital in business as well.
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1. What are the Types of Capital Markets?
Ans: There are two different types of capital markets, namely primary and secondary markets.
2. What is the Capital Market and Its Function?
Ans: A capital market facilitates the trading of securities and does not deal directly with money.
3. How Does the Capital Market Work?
Ans: The main objective of a capital market is to act as a medium, wherein funds can be transferred from the ones having sufficient disposable income to businesses that require capital.