UNIT I - An Overview of Financial System

Introduction:
● The financial system of any country includes financial institutions, markets, financial instruments, services,
transactions, agents, claims and liabilities in the economy.
● The financial system of a country plays a crucial role of allocating scarce capital resources to productive uses. Its efficient
functioning is of critical importance to the economy. Financial system channelizes the funds from the surplus units to the
deficit units.
● An efficient financial system not only encourages savings and investments, it also efficiently allocates resources in
different investment avenues and thus accelerates the rate of economic development.
● A financial system functions as an intermediary between savers and investors. It facilitates the flow of funds from the areas
of surplus to the areas of deficit.
● According to Prasanna Chandra, "financial system consists of a variety of institutions, markets and instruments related in
a systematic manner and provide the principal means by which savings are transformed into investments".
● Thus, financial system is a set of complex and closely interlinked financial institutions, financial markets, financial
instruments and services which facilitate the transfer of funds. In short financial system is a mechanism by which
savings are transformed into investments.
Net Lender and Net Borrower of Funds:
• Saver (refer to the ultimate lender) are suppliers /provider of funds represents the surplus economic units
• Eg. Household sector, Corporate sector ,Government, Foreign sector
• Borrowers are demanders of funds represents the deficit economic units – can use funds for consumer durables, house, or
business plant and equipment, and promise to repay borrower funds based on their expectation of having higher incomes in the
future.
• Eg. Household sector, Corporate sector ,Government, Foreign sector
• Gurley and Shaw showed that each of the sectors of the economy conform to the following identity (notation amended): I – E
= ΔFA – ΔDE.
• Deficit unit = E > I; therefore ΔDE > ΔFA, meaning that the economic unit is a net borrower of funds.
• Surplus unit = I > E; therefore ΔFA > ΔDE, meaning that the economic unit is a net lender of funds.
• Balanced unit = I = E; therefore ΔFA = ΔDE, meaning that the economic unit is neither a net borrower of funds nor a net
lender of funds
Functions of Financial System:
• Facilitation of flow of funds and Efficient allocation of funds.
• Transfer of resources
• Credit creation.
• Enhanced liquidity for lender.
• Price risk lessened for the ultimate lender.
• Improved diversification for lender.
• Economies of scale.
• Payment system.
• Assistance in price discovery.
• Risk alleviation.
• Price Information and Price Discovery
• Fungibility
• Monetary policy function.
• Economic Development
Facilitation of flow of funds and Efficient allocation of funds:
● The modern business needs large volumes of finance for expansion, diversification and undertaking new projects.
● At the same time, there are corporate as well as individual entities that have surplus funds.
● The financial system should provide a proper link between domestic and corporate savers, and those in need of funds, so
as to pool the surplus funds and channel them to productive lines.
● Financial intermediaries ensure pooling of funds and providing such funds to the borrowers.
● In other words, the financial system should provide an opportunity to small savers to participate in the larger investment
portfolios by pooling their savings and ensuring them a reasonable return.

Transfer of resources:
● An efficient financial system ensures the transfer of economic resources across time and space.
● The financial system provides mechanisms to transfer surplus resources from the savers to other segments of the markets
across time.
 Credit Creation:

Enhanced liquidity for lender:

Enhanced liquidity is created for the lender. If an individual purchases the securities of the ultimate lenders (such as making a loan
to a company), liquidity is zero until maturity of the loan. Intermediaries are in the business of purchasing less (or non-)
marketable primary securities, and offering liquid investments to the ultimate borrowers.

A good example is the banking sector that makes non-marketable securities such as mortgages, leases and instalment credit
contracts, and finances these by offering products that are immediately “encashable” such as call deposit accounts, current
accounts and savings accounts.
Price risk lessened for the ultimate lender
• financial intermediaries take on price risk and offer products that have little or zero price risk. An example is a long-term
insurer that has a portfolio mainly of shares and bonds (about 80% in many cases – the other investments being property
and money market investments) that involve substantial price risk at times, but offers products that have zero price risk,
such as guaranteed annuities.

• Another fine example is banks that have a diverse portfolio that includes price-sensitive bonds, loans and share / equity
investments, and offer products that have zero price risk such as fixed deposits.

Improved diversification for lender

The household sector (i.e. ultimate lenders) usually have a smaller wealth size and can therefore only achieve limited diversification
compared to a financial intermediary that aggregates small amounts for investment in the securities of the ultimate borrowers. Thus,
an individual has limited diversification possibilities and therefore carries a higher risk level than financial intermediaries, which are
able to hold a wide variety of investments.

Economies of scale
Because of the sheer scale of financial intermediaries compared with individual participants, a number of economies are
achieved. Two main economies are realized:
• Transactions costs.
• Research costs.

The largest benefit of financial intermediation is the reduction in transactions costs. The obvious example is that the (transaction)
 cost involved in purchasing a small number of shares in a company via a broker-dealer is similar to the cost of purchasing a large
number of shares. Even more important is payment system costs. The banking system, through the use of sophisticated technology,
provides an efficient payments service (cheque clearing, EFTs, ATM withdrawals, etc.) that is relatively inexpensive. Individual
participants in the financial system cannot achieve this reduction in transactions costs.

Another benefit is in terms of research costs. An individual holder of a diversified portfolio of shares has the task of monitoring the
performance of each company, which involves economic analysis, industry analysis, ratio analysis, etc. Financial intermediaries do
have the resources to carry out research, which essentially benefits the holders of its products (liabilities). A good example is the
retirement fund. The retirement fund member has a “share” or “participation interest” in the portfolio of the fund (liability of the
fund), and the fund has the resources to research the investments (assets) on behalf of the many members.
Payment System:
● As efficient financial system should ensure a payment system, which would enable easy and speedy exchange of goods and
services.
● Commercial banks and other financial intermediaries are the major agencies which provide the payment system.

Risk Management/alleviation:
• Certain financial intermediaries are in the business of offering protection against adverse occurrences such as untimely
death, health problems, damage to property and loss of income. In addition, the financial system allows for self-
insurance, i.e. the storage and building of wealth in order to protect against adverse life, property and income
occurrences.
• Financial markets across the world provide different types of hedging instruments to cover such exposures.
 Price information for decentralized decision making:
● Financial markets provide valuable information to help co-ordinate decentralize decision- making.
● The investors, who are spread across the country, may not get all the financial information.
● Financial markets, therefore, provide the required information through various publications, so that all the investors have
equal access to such information.

Price discovery process:

● Buyers and sellers interact with each other in a financial market like in any other. This interaction enables the counterparties
to known at what price a financial asset can be bought or sold at a mutually agreed price.
● They decide the required return, which becomes the benchmark return for the firms that are in need of funds.
● The process enables the firms to estimate the demand for funds and plan their resource mobilization process accordingly.
● The financial markets thus signal how the funds in an economy should be allocated among financial assets. This is
known as the price discovery process.

Fungibility:
● Financial market converts cash into securities and back to cash without any hurdles.
● Intermediaries operating in the market pool funds from savers and issue different forms of securities which are offered for
investment in the market.
● Therefore, the form of funds is changed and this can be brought back to the original form as and when required.
Monetary policy function:
The financial system provides the ideal mechanism for the implementation of government policy in terms of economic
growth, stable employment, balance of payments equilibrium and low inflation. The monetary authorities are able,
through various means, to exert a powerful influence on interest rates, in turn influencing consumption and investment
spending, the demand for loans / credit and so on.

Economic Development:

Role and Importance of Financial System in Economic Development:

● It plays a crucial role in economic development through saving- investment process. This savings- investment process is
called capital formation.
● It links the savers and investors. It helps in mobilizing and allocating the savings efficiently and effectively.
● It provides a mechanism for the transfer of resources across geographical boundaries.
● It offers portfolio adjustment facilities (provided by financial markets and financial intermediaries).
● It helps in lowering the transaction costs and increase returns.
● This will motivate people to save more.
● It helps in promoting the process of financial deepening and broadening.
● Financial deepening means increasing financial assets as a percentage of GDP and financial broadening means- building
an increasing number and variety of participants and instruments.
● In short, a financial system contributes to the acceleration of economic development.
Capital Formation:

● Capital Formation is nothing but the transfer of savings from households and governments to the business/corporate sector,
who invest in real /physical capital assets, which in turn increases the productive capacity of the economy and thereby
resulting in increased output and economic expansion.
● Capital formation increases the real capital by adding to the existing stock of capital goods (such as machine, tools, plant
and machinery, equipment, transport facilitates, land and building, furniture and fixtures etc) in the economy.
● There exists a positive relationship between the capital formation process and economic growth of the
economy. Inadequate availability or lack of capital formation in the economy may lead to
underdevelopment of the economy.
 ● In an economy the capital formation process can be expressed as a function of following factors or variables:
(a) increase in the volume of real domestic savings so that the financial resources that would have been used for consumption
are released for capital investment,
(b) the creation of adequate banking and financial institutions to mobilize savings of the economy and
(c) the emergence of an entrepreneurial class which can utilize the economy's saving into productive channels of
investment.
Therefore, it can be said that the growth of output (GDP) of any economy depends on capital formation, and capital
formation requires investment and an equivalent amount of saving to match it.
Meaning of Saving and Investment:
● Saving is defined as personal disposable income minus personal consumption expenditure. In other words, income that is
not consumed by immediately buying goods and services is saved.
● Investment is the production/creation per unit time of goods which are not consumed but are to be used for future production.
Types of Domestic Saving:
● There are basically three types of private domestic saving, namely: voluntary saving, involuntary saving and forced
saving.
● voluntary saving relates to the voluntary abstinence from consumption by private individuals out of personal disposable
income and by companies out of profits.
● Involuntary saving is saving brought about through involuntary reductions in consumption. All forms of taxation and
schemes for compulsory lending to governments (including national insurance contributions) are forms of
involuntary saving.
● Forced saving is saving that comes about as a result of rising prices and the reduction in real consumption that inflation
involves if consumers cannot defend themselves.
 Interest Rate:
● it is the price the borrowers must pay to lenders to obtain the use of money for a period of time.
● Example: When bank lends, the borrower is required to pay a price for the use of that money he/she has received from the
bank.
Significance of Interest Rate in the economy of the country:
● The rate and composition of savings is affected by the interest rate.
High interest rates in deposits encourage savings which is desirable in a capital scoring economy like India whereas low
interest will work as a disincentive to save.
Hence, there is a significant positive relationship between interest rates and total savings, financial savings, household
savings, and corporate savings.
● Interest rates influence the level of investment in an economy.
Low interest rates encourage high investment, help fight recession, revive the economy and accelerate the growth rate of
economy.
● A reduction in interest rates on bank deposits, small savings, provident fund and other debt instruments harm the interests of
low-income group, old, weak, poor, disadvantaged who are in need of social help.
● Interest rate has a close relationship with the general price level.
They are positively co related. Interest rate is also a tool for controlling inflation.
● There is an Inverse relationship between interest rate and money supply. Keynes opined that an increase in money stock
may tend to lower interest rates and vice versa.
 Inflation:
● Inflation can be defined as a rise in general overall price level of goods and services in an economy over a period of time
● In case the general price level rises: Each unit of money/currency buys fewer goods and services. Consequently,
inflation also reflects erosion in the purchasing power of money.
Example:
In 2019 1 Kg of Rice = Rs 50
In 2020 1 Kg of Rice = Rs 100
● The price of rise has increased from Rs 50 to Rs 100 over a period of one year and The purchasing power of money has
decline as the same quantity of good (1Kg) is available at higher price.
● Hence, the above price rise of Rice over a period of time is called as inflation that is affecting the purchasing power of the
people.
Types of Inflation:
● Demand Pull Inflation
● Cost Push Inflation

Demand-Pull Inflation:
When the aggregate demand for consumer goods in an economy strongly outweighs/outpace the aggregate supply, prices go up.
Causes of Demand-Pull Inflation:
• A growing economy. When consumers feel confident, they spend more and take on more debt. This leads to a steady
increase in demand, which means higher prices.
• A low unemployment rate is unquestionably good in general, but it can cause inflation because more people have more
 disposable income.
• Asset inflation. A sudden rise in exports forces an undervaluation of the currencies involved.
• Government spending. Increased government spending is good for the economy, too, but it can lead to scarcity in some
goods and inflation will follow.
• Inflation expectations. Companies may increase their prices in expectation of inflation in the near future.
• More money supply in the system. An expansion of the money supply with too few goods to buy makes prices increase.

Cost-Push Inflation:
Cost-push inflation occurs when firms respond to rising costs by increasing prices in order to protect their profit margins.
• Cost-push inflation occurs when overall prices increase (inflation) due to increases in the cost of wages and raw
materials, inventories and hence cost of production. Higher costs of production can decrease the aggregate supply (the
amount of total production) in the economy. Since the demand for goods hasn't changed, the price increases from
production are passed onto consumers creating cost-push inflation.
• If a company's production costs rise, the company's executive management might try to pass the additional costs
onto consumers by raising the prices for their products. If the company doesn't raise prices, while production costs
increase, the company's profits will decrease.
Components of Financial System:
The financial system comprises the following four major components:
• Financial Institutions
• Financial Market
• Financial Instruments
• Financial Services
Financial Institutions:
• A financial institution is an institution that provides financial services for its clients or members.
• One of the most important financial services provided by a financial institution is acting as a financial intermediary. Most
financial institutions are regulated by the regulators.
• These institutions are responsible for distributing financial resources in a planned way to the potential users.
• Financial institutions include banks, credit unions, asset management firms, building societies, and stock brokerages,
among others.
• There are two types of financial institutions primarily, viz., Banking Financial Institution and Non - Banking Financial
Institution.

Banking Financial Institution:

• Banking Regulation Act of India, 1949 defines Banking as “accepting deposits, for the purpose of lending or of investment of
deposits of money from the public, repayable on demand or otherwise or withdrawable by cheque, draft order or otherwise.”
The banking institutions of India play a major role in the economic development of the country.
• Banking institution can use banking instruments like cheque, Demand draft, pay order but non-banking institution cannot use
these instruments.
• The Reserve Bank of India Act, 1934 and the Banking Regulation Act, 1949, govern the banking operations in India.
• Example: State bank of India, Indian Bank , Canara Bank, Syndicate bank , ICICI Bank & HDFC Bank etc.
Non-Banking Finance Institution: Also known as NBFC – Non banking finance company
• A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956 of India, engaged in the
business of loans and advances, acquisition of shares, stock, bonds etc.
• The working and operations of NBFCs are regulated by the Reserve Bank of India (RBI) within the framework of the Reserve
Bank of India and the directions issued by it.
• Types of NBFCs: Insurance company, Investment Company (IC), Equipment leasing company (ELC), Hire Purchase finance
company (HPFC), Housing finance company (HFC), Loan Company (LC) (Does not include ELC, HPFC, HFC), Mutual
Benefit companies (MBFC), Residual non-banking company (RNBC), Miscellaneous non-banking companies
• Example: Power Finance Corporation, Shriram Transport Finance, Muthoot Finance, IFCI-Industrial Finance Corporation of
India etc
Banking Structure in India:

Reserve Bank of India (RBI) -Banker’s Bank:

● The Reserve Bank of India (RBI) is the central bank of India, and was established on April 1, 1935 in accordance with
the provisions of the Reserve Bank of India Act, 1934. Though originally privately owned, RBI has been fully owned by
the Government of India since nationalization in 1949.

● The RBI is the supreme monetary and banking authority in the country and has the responsibility to control
the banking system in the country. It keeps the reserves of all scheduled banks and hence is known as the
“Reserve Bank”.
 Scheduled Banks and Non- Scheduled Banks
● Banks which meet specific criteria are included in the second schedule of the RBI Act, 1934. These are called scheduled
banks. They may be commercial banks or co- operative banks. Scheduled banks are considered to be safer, and are entitled to
special facilities like re-finance from RBI. Inclusion in the schedule also comes with its responsibilities of reporting to RBI
and maintaining a percentage of its demand and time liabilities as Cash Reserve Ratio (CRR) with RBI.

● Scheduled banks are the ones covered in the second schedule of the Reserve Bank, whereas non-scheduled banks
are the banks that are not covered in the second schedule of the Reserve Bank.
Commercial Banks:
Commercial banks comprising public sector banks, foreign banks, and private sector banks represent the most important financial
intermediary in the Indian financial system.
Commercial bank is a financial institution, which is authorized to accept deposits from the general public and grant credit to them.
They are governed by the Banking Regulation Act, 1949 and supervised by the Reserve Bank of India.

Public sector commercial banks: Majority of stake is held by the government. Examples of Public Sector Banks are;
Bank of Baroda, Bank of India, Bank of Maharashtra, Canara Bank, Central Bank of India, Indian Bank, Indian Overseas Bank,
Punjab and Sind Bank, Punjab National Bank, State Bank of India, UCO Bank, Union Bank of India

Private Sector Commercial banks: Majority of stake is held by private individuals. Examples of Private banks are;
Axis Bank, Bandhan Bank, CSB Bank, City Union Bank, DCB Bank, Dhanlaxmi Bank, Federal Bank, HDFC Bank, ICICI Bank,
IndusInd Bank, IDFC FIRST Bank, Jammu & Kashmir Bank, Karnataka Bank, Karur Vysya Bank, Kotak Mahindra Bank,
Lakshmi Vilas Bank, Nainital bank, RBL Bank, South Indian Bank, Tamilnad Mercantile Bank, YES Bank, IDBI Bank
 Foreign Commercial banks in India: These are the banks with Head office outside the country in which they are located.
Citi Bank, Standard Chartered Bank, HSBC India, Deutsche Bank, Royal Bank of Scotland, DBS Bank, Barclays Bank, Bank of
America, Bank of Bahrain and Kuwait, Doha Bank etc
Cooperative Bank:
● Cooperative Banks are the financial institutions that are owned and run by their customers and operates on the principle of
one person one vote.
● The bank is governed by both banking and cooperative legislation, as they are registered under the Cooperative Society Act,
1965 and regulated by National Bank for Agriculture and Rural Development (NABARD) & Reserve Bank of India (RBI).
They operate in both rural as well as urban areas and provide credit to borrowers and businesses.
● Cooperative Banks offer a range of services like accepting deposits and granting loans to the members and even non-
members. The members are the owners and customers of the bank at the same time. The bank offers services like deposit
accounts such as savings and current account, safe keeping of valuables (locker facility), loan and mortgage facility to the
customers. These banks play a vital role in mobilizing savings and stimulating agricultural investment.
The co-operative banking sector is divided into the following categories.
● Primary Agriculture credit society: These are formed at the village or town level with the borrower and non-borrower
members staying at a place or locality
● Central Co-operative banks: These banks operate at district level having the primary people at a locality and they even
provide loans to their members and acts as a link between both of them.
● State Co-operative Banks: These banks serve as a link between the central and the primary credit society.
Main Functions of Commercial Banks:
Acceptance of deposits
● Fixed deposit account
● Saving bank account
● Current account
Advancing of loan
● Cash credit
● Call loans
● Over draft
● Bills discounting
Agency function
● Collecting receipts
● Making payments
● Buy and sell securities
● Trustee and executor
 General utility functions
● Issuing letters of credit, travelers cheques
● Underwriting share and debentures
● Safe custody of valuables
● Providing ATM and credit card facilities
● Providing credit information
Functions of RBI
Monetary Authority
● Formulates, implements and monitors the monetary policy.
● Objective: maintaining price stability and ensuring adequate flow of credit to productive sectors
● Regulator and supervisor of the financial system
● Prescribes broad parameters of banking operations within which the country’s banking and financial system functions.
● Objective: Maintain public confidence in the system, protect depositors’ interest and provide cost-effective banking services
to the public. The Banking Ombudsman Scheme has been formulated by the Reserve Bank of India (RBI) for effective
redressal of complaints by bank customers
Manager of Foreign Exchange and Control
● Manages the foreign exchange through Foreign Exchange Management Act, 1999.
● Objective: to facilitate external trade and payment and promote orderly development and maintenance of foreign
exchange market in India.
● Issuer of currency
● Issues and exchanges or destroys currency and coins not fit for circulation.
● Objective: to give the public adequate quantity of supplies of currency notes and coins and in good quality

Developmental role
● Performs a wide range of promotional functions to support national objectives
● Banker to the Government: performs merchant banking function for the central and the state governments; also acts as
their banker.
● Banker to banks: maintains banking accounts of all scheduled banks.
● Owner and operator of the depository (SGL) and exchange (NDS) for government bonds

Supervisory Functions:
● The Reserve Bank Act, 1934, and the Banking Regulation Act, 1949 have given the RBI wide powers of supervision
and control over commercial and cooperative banks, relating to licensing and establishments, branch expansion,
liquidity of their assets, management and methods of working, amalgamation, reconstruction and liquidation.
● The RBI is authorized to carry out periodical inspections of the banks and to call for returns and necessary information
from them. The supervisory functions of the RBI have helped a great deal in improving the standard of banking in
 India to develop on sound lines and to improve the methods of their operation.

Promotional Functions:
● The Reserve Bank performs a variety of developmental and promotional functions. The Reserve Bank promotes
banking habit, extend banking facilities to rural and semi-urban areas, and establish and promote new specialized
financing agencies.
● The Reserve bank has helped in the setting up of the IFCI and the SFC: it set up the Deposit Insurance Corporation of
India in 1963 and the Industrial Reconstruction Corporation of India in 1972. These institutions were set up directly or
indirectly by the Reserve Bank to promote saving habit and to mobilize savings, and to provide industrial finance as
well as agricultural finance.
● The RBI set up the Agricultural Credit Department in 1935 to provide agricultural credit. The Bank has developed the
co-operative credit movement to encourage saving, to eliminate money-lenders from the villages and to route its short
term credit to agriculture. The RBI has set up the Agricultural Refinance and Development Corporation to provide long-
term finance to farmers.
 Development Banks:
• A development bank may be defined as a financial institution concerned with providing all types of financial assistance to
business units in the form of loans, underwriting, investment and guarantee operations and promotional activities-economic
development in general and industrial development in particular.

Functions of Development Banks

• Fostering industrial growth
• Providing Long term assistance
• Balanced development
• Providing Promotional services
• Infrastructure building
• Entrepreneur Development
• Fulfilling Socio economic objectives

Development Banks:
Development Banks mostly provide long term finance for setting up industries. They also provide short-term
finance (for export and import activities)
• Industrial Finance Co-operation of India (IFCI)
• Industrial Credit and Investment Corporation of India (ICICI)
• Industrial Development of India (IDBI)
• Industrial Investment Bank of India (IIBI)
• Small Industries Development Bank of India (SIDBI)
• National Bank for Agriculture and Rural Development (NABARD)
• State Financial Corporations (SFC)
• Export-Import Bank of India (Exim Bank)
• Export Credit Guarantee Corporation (ECGC)
• Industrial Reconstruction Bank of India (IRBI)
Note: Financial Market topic has been discussed in brief here. We will discuss in detail in the Unit 2

Financial Market: It is a market or platform where Financial Instruments are Issued or traded (bought & sold).

Capital Market: A market for long term financial instruments having maturity of more than one year.
Capital Market refers to the institutional arrangements for borrowing and lending long-term financial instruments.
Capital Market is divided into three groups:
Corporate Securities Market: Corporate securities are equity and preference shares, debentures and bonds of
companies.
Government Securities Market: The securities are issued in the form of bonds and credit notes. The buyers of such
securities are Banks, Insurance Companies, Provident funds, RBI and Individuals.
 Long-Term Loans Market: Banks and Financial institutions that provide long-term loans to firms for
modernization, expansion and diversification of business.

Money Market: A market for short term financial instruments having maturity of less than one year.
Money Market refers to the institutional arrangements for borrowing and lending short-term financial instruments
having maturity of less than one year.

The money market is divided into two types: Unorganised and Organised Money Market.

Unorganized Market:
Example: Moneylenders, Indigenous Bankers, Chit Funds, etc.

Organized Money Market: Treasury Bills, Commercial Paper, Certificate of Deposit, Call Money Market and
Commercial Bill Market.
Organised Money Markets work as per the rules and regulations of RBI.
Role of Capital Market:
• Mobilization of savings
• Capital formation
• Economic development
• Integrates different parts of the financial system
• Promotion of Stock Market
• Foreign Capital
• Economic Welfare
Note: Financial Instruments topic has been discussed in brief here. We will discuss in detail in the Unit 3

Financial Instruments

A financial instrument is any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument
of another entity.”
 Note: Financial Service topic has been discussed in brief here. We will discuss in detail in the Unit 4

Financial Service:
Financial services may be defined as the products and services offered by financial institutions for the facilitation of various
financial transactions and other related activities.

Characteristics or Nature of Financial Services:

Intangibility: Financial services are intangible. Therefore, they cannot be standardized or reproduced in the same form. They
can’t be seen.

Inseparability: Both production and supply of financial services have to be performed simultaneously in presence of both.
Hence, there should be perfect understanding between the financial service institutions and its customers.

Perishability: Like other services, financial services also require a match between demand and supply. Services cannot be
stored.. They have to be supplied when customers need them.

Variability/Dynamism: In order to cater a variety of financial and related needs of different customers in different areas. This
means the financial services have to be tailor-made to the requirements of customers.

Dominance of human element: Financial services are dominated by human element. Thus, It requires competent and
skilled personnel to market the quality financial products.

Information based: Financial service industry is an information based industry. Information is an essential component in the
production of financial services.

Customer Oriented: While providing financial services, Service provider has to keep the customer need in the mind
before catering to client.
Importance of Financial Services:
Economic growth: The financial service industry mobilizes the savings of the people, and channels them into productive
investments by providing various services to people in general and corporate enterprises in particular. In short, the
economic growth of any country depends upon these savings and investments.

Promotion of savings and channelization of funds: The financial service industry mobilizes the savings of the people by
providing transformation services. It provides liability, asset and size transformation service by providing huge loan from
small deposits collected from a large number of people. In this way financial service industry promotes savings. It helps in
financial deepening and broadening.

Capital formation: Financial service industry facilitates capital formation by rendering various capital market
intermediary services.

Creation of employment opportunities: The financial service industry creates and provides employment
opportunities.

Contribution to GDP and GNP: Recently the contribution of financial services to GNP has been increasing year after year
in almost countries.

Provision of liquidity: The financial service industry promotes liquidity in the financial system. It facilitates easy
conversion of financial assets into liquid cash.
 Classification of Financial Services
The financial services can be broadly classified into two: (a) fund based services and (b) non-fund services (or fee-based services)

Fund based Services:

In Fund based activities funds are arranged for the customers and the financial intermediary charges interest for the amount of funds
utilized. The funds outlay happens in the form of sanction of credit facility to the borrower. Fund based activities can be of the
following types:

• Equipment Leasing
• Hire purchase
• Factoring
• Forfeiting
• Mutual funds
• Bill discounting
• Credit Financing
• Housing Finance
• Venture capital
• Insurance
Non-fund/fee-based Services:
These services are basically advisory/ancillary services for which the provider of services charges a fee or a commission for rendering
the services. They do not involve outlay of funds. Non-Fund based activities can be of the following types.
• Merchant banking
• Issue Management
• Portfolio management
• Corporate counseling
• Credit rating
• Stock broking
• Capital restructuring
• Custodial Services
• Loan Syndication
Unit II – Financial Market
Introduction
History of the capital market in India dates back to the 18 century when east India co. Securities was
traded in country. Until the end of the 19th century securities trading was unorganized and the main
trading centers were Bombay and Calcutta.
Indian capital markets are one of the oldest markets in Asia as well as in the world. Under the British
Companies Act, the Stock Exchange, Mumbai, came into existence in 1875. It was an unincorporated
body of stockbrokers, which started doing business in the city under a banyan tree, in front of the
town hall in Bombay. A small group of stock brokers in Bombay joined together in 1875 to form an
association called Native Shares and Stock Brokers Association Bombay.
The Bombay stock exchange was recognized in May 1927 under Bombay securities Contract Control
Act 1925. The capital market was not well organized and developed during the British rule because
the British government was not interested in economic growth of the country. As a result many
foreign co. depended on London capital market for fund.
In the post independence period also the size of capital market is small. The planning process started
in India in 1951, with importance being given to the formation of institutions and markets The
Securities Contract Regulation Act 1956 became the parent regulation after the Indian Contract Act
1872, a basic law to be followed by security markets in India.
To regulate the issue of share prices, the Controller of Capital Issues Act (CCI) was passed in 1947.
During the first and second five year plan, the Govt emphasis was on the development of the
agricultural and public undertakings. The public undertakings were healthier than Pvt. Undertakings
in terms of paid up share capital, but shares were not listed on the stock exchange. More over
Controller of Capital Issue (CCI) closely supervised everything. These strict regulations de-
motivated many company.

Financial Market: It is a market or platform where Financial Instruments are

Issued or traded (bought & sold).

Capital Market:
Capital Market refers to the institutional arrangements for borrowing and lending long term financial
instruments.
Capital Market is divided into three groups:
• Corporate Securities Market: Corporate securities are equity and preference shares,
debentures and bonds of companies.
• Government Securities Market: The securities are issued in the form of bonds
and credit notes. The buyers of such securities are Banks, Insurance Companies, Provident funds,
RBI and Individuals.
• Long-Term Loans Market: Banks and Financial institutions that provide longterm loans to firms for
modernization, expansion and diversification of business.

Money Market:
• Money Market refers to the institutional arrangements for borrowing and lending of short term
financial instruments having maturity of less than one year. RBI is the regulator of Money market.
• The money market is divided into two types: Unorganized and Organized Money Market.
Unorganized Money Market:
Example: Moneylenders, Indigenous Bankers, Chit Funds, etc.
• Organized Money Market: Treasury Bills, Commercial Paper, Certificate Of Deposit,
Call Money Market and Commercial Bill Market etc

Capital market
Capital market is a market where buyers and sellers engage in trade of financial securities like bonds,
stocks, etc. The buying and selling is undertaken by participants such as individuals and institutions.

Capital market consists of primary markets and secondary markets. Primary markets deal with trade
of new issues of stocks and other securities, whereas secondary market deals with the exchange of
existing or previously-issued securities. Another important division in the capital market is made on
the basis of the nature of security traded, i.e. stock market and bond market.

Capital market deals with medium term and long term funds. It refers to all facilities and the
institutional arrangements for borrowing and lending term funds (medium term and long term). The
demand for long term funds comes from private business corporations, public corporations and the
government. The supply of funds comes largely from individual and institutional investors, banks and
special industrial financial institutions and Government.

Role & Importance of Capital Market in India

Capital market has a crucial significance to capital formation. For a speedy economic development
adequate capital formation is necessary. The significance of capital market in economic development
is explained below:-
Mobilization of Savings and Acceleration of Capital Formation
In developing countries like India the importance of capital market is self evident. In this market,
various types of securities help to mobilize savings from various sectors of population. The twin
features of reasonable return and liquidity in stock exchange are definite incentives to the people to
invest in securities. This accelerates the capital formation in the country.
Raising Long - Term Capital
The existence of a stock exchange enables companies to raise permanent capital. The investors
cannot commit their funds for a permanent period but companies require funds permanently. The
stock exchange resolves this dash of interests by offering an opportunity to investors to buy or sell
their securities, while permanent capital with the company remains unaffected.
Promotion of Industrial Growth
The stock exchange is a central market through which resources are transferred to the industrial
sector of the economy. The existence of such an institution encourages people to invest in productive
channels. Thus it stimulates industrial growth and economic development of the country by
mobilizing funds for investment in the corporate securities.
Ready and Continuous Market
The stock exchange provides a central convenient place where buyers and sellers can easily purchase
and sell securities. Easy marketability makes investment in securities more liquid as compared to
other assets.
Technical Assistance
An important shortage faced by entrepreneurs in developing countries is technical assistance. By
offering advisory services relating to preparation of feasibility reports, identifying growth potential
and training entrepreneurs in project management, the financial intermediaries in capital market play
an important role.
Reliable Guide to Performance
The capital market serves as a reliable guide to the performance and financial position of corporate,
and thereby promotes efficiency.
Proper Channelization of Funds
The prevailing market price of a security and relative yield are the guiding factors for the people to
channelise their funds in a particular company. This ensures effective utilisation of funds in the
public interest.
Provision of Variety of Services
The financial institutions functioning in the capital market provide a variety of services such as grant
of long term and medium term loans to entrepreneurs, provision of underwriting facilities, assistance
in promotion of companies, participation in equity capital, giving expert advice etc.
Development of Backward Areas
Capital Markets provide funds for projects in backward areas. This facilitates economic development
of backward areas. Long term funds are also provided for development projects in backward and
rural areas.
Foreign Capital
Capital markets makes possible to generate foreign capital. Indian firms are able to generate capital
funds from overseas markets by way of bonds and other securities. Government has liberalised
Foreign Direct Investment (FDI) in the country. This not only brings in foreign capital but also
foreign technology which is important for economic development of the country.
Easy Liquidity
With the help of secondary market investors can sell off their holdings and convert them into liquid
cash. Commercial banks also allow investors to withdraw their deposits, as and when they are in need
of funds.
Revival of Sick Units
The Commercial and Financial Institutions provide timely financial assistance to viable sick units to
overcome their industrial sickness. To help the weak units to overcome their financial industrial
sickness banks and FIs may write off a part of their loan.
Economic development
Integrates different parts of the financial system Promotion of Stock Market
Economic Welfare
Innovation
Factors Contributing to the development of Capital Market
Growth of Development Banks and Financial Institutions
For providing long term funds to industry, the government set up Industrial Finance Corporation in
India (IFCI) in 1948. This was followed by a number of other development banks and institutions
like the Industrial Credit and Investment Corporation of India (ICICI) in 1955, Industrial
Development Bank of India (IDBI) in 1964, Industrial Reconstruction Corporation of India (IRCI) in
1971, Foreign Investment Promotion Board in 1991, Over the Counter Exchange of India (OTCEI)
in 1992 etc. In 1969, 14 major commercial banks were nationalised. Another 6 banks were
nationalised in 1980. These financial institutions and banks have contributed in widening and
strengthening of capital market in India.
Setting up of SEBI
The Securities Exchange Board of India (SEBI) was set up in 1988 and was given statutory
recognition in 1992.
Credit Rating Agencies
Credit rating agencies provide guidance to investors / creditors for determining the credit risk. The
Credit Rating Information Services of India Limited (CRISIL) was set up in 1988 and Investment
Information and Credit Rating Agency of India Ltd. (ICRA) was set up in 1991. These agencies are
likely to help the development of capital market in future.
Growth of Mutual Funds
The mutual funds collect funds from public and other investors and channelise them into corporate
investment in the primary and secondary markets. The first mutual fund to be set up in India was Unit
Trust of India in 1964. In 2007-08 resources mobilised by mutual funds were Rs. 1, 53,802 crores.
Increasing Awareness
During the last few years there has been increasing awareness of investment opportunities among the
public. Business newspapers and financial journals (The Economic Times, The Financial Express,
Business India, and Money etc.) have made the people aware of new long-term investment
opportunities in the security market.
Growing Public Confidence
A large number of big corporations have shown impressive growth. This has helped in building up
the confidence of the public. The small investors who were not interested to buy securities from the
market are now showing preference in favor of shares and debentures. As a result, public issues of
most of the good companies are now over-subscribed many times.
Legislative Measures
The government passed the companies Act in 1956. The Act gave powers to government to control
and direct the development of the corporate enterprises in the country. The capital Issues (control)
Act was passed in 1947 to regulate investment in different enterprises, prevent diversion of funds to
non-essential activities and to protect the interest of investors. The Act was replaced in 1992.
Growth of Underwriting Business
The growing underwriting business has contributed significantly to the development of capital
market.
Development of Venture Capital Funds
Venture capital represents financial investment in highly risky projects with a hope of earning high
returns After 1991, economic liberalisation has made possible to provide medium and long term
funds to those firms, which find it difficult to raise funds from primary markets and by way of loans
from FIs and banks.
Growth of Multinationals (MNCs)
The MNCs require medium and long term funds for setting up new projects or for expansion and
modernisation. For this purpose, MNCs raise funds through loans from banks and FIs. Due to the
presence of MNCs, the capital market gets a boost.
Growth of Entrepreneur
Since 1980s, there has been a remarkable growth in the number of entrepreneurs. This created more
demand for short term and long term funds. FIs, banks and stock markets enable the entrepreneurs to
raise the required funds. This has led to the growth of capital market in India.
Growth of Merchant Banking services
The credit for initiating merchant banking services in India goes to Grindlays Bank in 1967, followed
by Citibank in 1970. Apart from capital issue management, merchant banking divisions provide a
number of other services including provision of consultancy services relating to promotion of
projects, corporate restructuring etc.
Growing Population and Public confidence

Primary Market Vs Secondary Market

Primary Market/New Issue Market (NIM):
● It is a market where fresh securities are issued/offered by a company (issuer) to
the investors.
● Primary market is a significant constituent of a capital market. In the
primary market the security is purchased directly from the issuer..
● Corporate enterprises and Government raises long term funds from the
primary market by issuing financial securities..
● These securities could be in the form of equity shares, preference
shares, debentures, right issues, deposits etc.
● It provides a direct mechanism for the flow of savings (financial
resources) into long term investments into the economic system operating
in a country. Hence it can be said that a Primary market is an essential
prerequisite for the industrial and commercial development and hence the
economic development of a country.
Different methods of raising funds by issuing shares in a Primary market:

(a) Public issue

(i) Initial Public offer (IPO)

(ii) Further public offer (FPO)

(b) Rights issue

(c) Bonus issue

(d) Private placement

(i) Preferential issue

(ii) Qualified institutional placement

Public issue: When an issue of securities/ offer for sale of securities is made to new
investors for becoming part of shareholders’ family of the issuer it is called a public
issue. Under this method, the company invites subscription from the public through the
issue of prospectus (and issuing advertisements in newspapers).
Public issue can be further classified into Initial public offer (IPO) and Further public
offer (FPO). The significant features of each type of public issue are illustrated below:

Initial public offer (IPO): When an unlisted company makes either a fresh issue of
securities or offers its existing securities for sale or both for the first time to the
public, it is called an IPO. Once the IPO is complete, the stocks so offered are listed
on the stock exchange for further trading.
Examples: Rossari Biotech IPO, Happiest Minds Technologies Ltd IPO, Route Mobile Ltd
IPO

Further public offer (FPO) or Follow on offer: When an already listed company
makes either a fresh issue of securities to the public or an offer for sale to the public
through an offer document, it is called a follow on offer (FPO). The funds raised
enable the company to pay debts, act on its growth strategy and hence benefiting the
stakeholders.
FPO is offered at a discounted price than the current market price of that company
stock.

Example Yes Bank, already existing in exchange but for more fund offer FPO

Rights issue (RI): When a fresh issue of securities is made by an issuer to its
shareholders existing as on a particular date fixed by the issuer (i.e. record date), it is
called a rights issue. The rights are offered in a particular ratio to the number of
securities held as on the record date.
Example- Sriram Transport & Finance Ltd, offers Right Issues to it's shareholders,
against 26 shares they will give 3 right shares and today's rate is ₹680/- whereas company
gives right issues at ₹570/

Bonus issue :
• When an issuer makes an issue of securities to its existing shareholders as on a
record date, without any consideration from them, it is called a bonus issue. The
shares are issued out of the Company’s free reserve or share premium account in
a particular ratio to the number of securities held on a record date.

Private placement : When an issuer makes an issue of securities to a selected group of

persons not exceeding 49, and which is neither a rights issue nor a public issue, it is called a
private placement. Private placement of shares or convertible securities by listed issuer can
be of two types:

Preferential allotment : When a listed issuer issues shares or convertible securities, to a

selected group of persons in terms of provisions of Chapter XIII of SEBI (DIP) guidelines, it
is called a preferential allotment. The issuer is required to comply with various provisions
which inter-alia include pricing, disclosures in the notice, lock-in etc, in addition to the
requirements specified in the Companies Act.

Qualified Institutions Placement (QIP): When a listed issuer issues equity shares or
securities convertible in to equity shares to qualified institutions buyers only in terms of
provisions of Chapter XIIIA of SEBI (DIP) guidelines, it is called a QIP.
Initial Public Offerings (IPOs):
• Initial Public Offer (IPO) in primary market is a route for a company to raise
capital from investors to meet the fund requirement of business (capital for
future growth, repayment of debt or working capital) and to get a global
exposure by getting listed in the Stock Exchange.
• An Initial Public Offer (IPO) involves selling of securities to the public in the
primary market.
• Company raising money through IPO is also called as company ‘going public'.
• From a company’s perspective, IPO’s help them to identify their real value which
is decided by millions of investors once their shares are listed on stock
exchanges.
• IPO's also provide funds for their future growth or for paying their previous
borrowings.
• From an investor’s point of view, IPO gives a chance to buy shares of a company,
directly from the company at the price of their choice (In book build IPO's).
• When a company issues IPO and lists its securities on a public exchange, the
money paid by investors for the newly- issued shares goes directly to the
company (in contrast to a later trade of shares on the exchange, where the money
passes between investors).
• After trading in the primary market the security will then enter the secondary
market, where numerous trades happen every day.
• IPO can be used as both a financing strategy and an exit strategy.
• In a financing strategy the main purpose of the IPO is to raise funds for the
company.
• In an exit strategy for existing investors, IPOs may be used to offload equity
holdings to the public through a public issue.
• A company selling common shares is never required to repay the capital to
investors. Once a company is listed, it is able to issue additional common shares
via a secondary offering, thereby again providing itself with capital for expansion
without incurring any debt. This ability to quickly raise large amounts of capital
from the market is a key reason many companies seek to go public.
 Intermediaries involved in the Issue Process:

Merchant Banker (also known as a book running lead manager):

• Bridge the gap between investors and corporates that are looking for funding to meet
their business needs like expansion, diversification or setting up a new enterprise.

• Their services include providing advisory services (with respect to the size of the issue,
the amount of stock to be issued, the value of the business, the use of proceeds, and the
timing of issuance of the new stock, The amount of money the company will raise, the
type of securities to be issued) to corporates for issue management, making
arrangements for buying, selling or subscribing to shares in an issue or services such as
underwriting, analysis and advice related to mergers and acquisitions, arranging venture
capital, credit syndication and portfolio management.

• They are also responsible for ensuring compliance with the legal formalities in the
entire issue process and for marketing of the issue. They also act as lead managers,
issue managers and co-managers.

• In India, the Securities and Exchange Board of India (SEBI) classifies merchant bankers
into four categories based on permissible activity and capital adequacy norms (see table
below).

Merchant Bank:

• The term merchant bank refers to a financial institution that conducts

underwriting, loan services, financial advising, and fundraising services for large
corporations and high-net-worth individuals (HWNIs). Merchant banks are experts
in international trade, which makes them specialists in dealing with multinational
corporations. Unlike retail or commercial banks, merchant banks do not provide
financial services to the general public.
• A merchant bank does not have retail offices where one can go and open a savings
or checking account.
• A merchant bank is sometimes said to be a wholesale bank, or in the business of
wholesale banking. This is because merchant banks tend to deal primarily with
other merchant banks and other large financial institutions.

Functions of a Merchant Banker:

Issue Management of debt and equity offerings- merchant banker assists the companies in
raising funds from the market. The main areas of work in this regard include:

• Merchant Banker act as intermediaries in purchase and sale of securities in the

primary market.

• Instrument designing, i.e deciding the number of stocks to be issued, the price
at which the stock will be issued, and the timing of the release of this new stock.
• Filing of all the paperwork required with the various market authorities stock and
registration of offer document
 • Performs underwriting function
• Marketing/Roadshow of the issue
• allotment and refund
• listing on stock exchanges.
• For really large stock offerings, several merchant banks may work together, with
one being the lead underwriter

Placement and distribution- The merchant banker helps in distributing various securities
like equity Bond etc through their distribution network.
The distribution network of the merchant banker can be classified as institutional and retail in
nature. The institutional network consists of mutual funds, foreign institutional investors,
private equity funds, pension funds, financial institutions etc. The size of such a network
represents the wholesale reach of the merchant banker. The retail network depends on
networking with investors.

Corporate advisory/consultancy services- Merchant bankers offer customized solutions to

their clients financial problems. The following are the main areas in which their advice is
sought:
 • Financial structuring includes determining the right debt-equity ratio
and gearing ratio for the client, the appropriate capital structure theory
is also framed.
• Merchant bankers also explore the refinancing alternatives of the
client, and evaluate cheaper sources of funds.
• In case of sick units, merchant bankers may design a revival
package in coordination with banks and financial institutions.
• Risk management is another area where advice from a merchant banker
is sought. He advises the client on different hedging strategies and
suggests the appropriate strategy.

Project advisory services- Merchant bankers help their clients in various stages of
the project undertaken by the clients. They assist them in conceptualising the
project idea in the initial stage. Once the idea is formed, they conduct feasibility
studies to examine the viability of the proposed project. They also assist the client
in preparing different documents like the detailed project report.

Loan syndication- Merchant bankers arrange to tie up loans for their clients.
This takes place in a series of steps. Firstly they analyse the pattern of the
client’s cash flows, based on which the terms of borrowings can be defined.
Then the merchant banker prepares a detailed loan memorandum, which is
circulated to various banks and financial institutions and they are invited to
participate in the syndicate.
The banks then negotiate the terms of lending on the basis of which the final
allocation is done.

Providing venture capital and mezzanine financing- Merchant bankers help

companies in obtaining venture capital financing for financing their new and
innovative strategies.

Helps in raising finance through issuance of debt or equity from

international market.

In India, the Securities and Exchange Board of India (SEBI) classifies merchant
bankers into four categories based on permissible activity and capital adequacy
norms (see table below).
Category Activities Minimum Net worth
Requirement
Category 1 Act as Issue Manager, Rs.5 crore
underwriter,
advisor, consultant or portfolio
manager

Category 2 Act as co-manager, Rs.50 lakhs

underwriter, advisor,
consultant or portfolio manager
Category 3 Act as co-managers without Rs.20 lakhs
undertaking portfolio
management

Category 4 Only act as an advisor or NIL

consultant for the issue

Leading merchant bankers in India

Public sector: SBI Capital Markets, Punjab National bank, IFCI Financial Services

Private sector: ICICI Securities, Axis Bank, Bajaj Capital, Tata Capital Markets, Yes
Bank, Kotak Mahindra Capital Company, Reliance Securities

Foreign merchant bankers: Goldman Sachs (India) Securities, Morgan Stanley India,
Barclays Securities (India), Bank of America, Citigroup Global Markets India

Book Running Lead Manager:

• Prior to the IPO, the Lead Manager ensures the complete due diligence of a
company's operations, business plans including future business plans, legal
aspects etc. due diligence is performed to prepare the offer document which
contains all the details about the company.

• To ensure the correctness and accuracy of extremely critical documents that

include prospectus and promotional material, including advertisements.

• To ensure the complete regulatory compliance including those by the Registrar of

Companies, Securities and Exchange Board of India and other authorities,
including the various stock exchanges.

• They may also decide and appoint a Registrar to the public issue, printers,
advertising Agency and Bankers to the Offer.

• To ensures marketing strategies for a successful public issue.

• After the public issue they ensure that the securities get listed and that the refunds
from the IPO are completed successfully. That requires a good coordination
with the management and agencies like the registrars, bankers and others.
• They have to get the pricing of the IPO right, along with compliance and ensure
success of the issue.

Syndicate Members:

• The Book Runner(s) may appoint those intermediaries who are registered with the
Board and who are permitted to carry on activity as an ‘Underwriter’ as
syndicate members.

• Syndicate members are commercial or investment banks responsible for

underwriting IPO's. Syndicate members are usually registered with SEBI
or registered as brokers with BSE / NSE Stock Exchanges.

• Syndicate members are responsible for distributing IPO applications, receiving

filled applications from investors and timely update the data on the stock
exchange IPO shares bidding platform (NSE / BSE).

• They work as intermediaries for Issuer Company and the buyers of the IPO stocks.
Investors submit their bids for IPO shares through Syndicate Members appointed
by the Issuer Company.

• The Members of the Syndicate circulate copies of the Red Herring Prospectus
along with the bid cum application form to potential investors. They are also
responsible for accepting the bids, payments and application forms for the
public issue.

• After receiving the bid for IPO Shares from an investor, Syndicate Member enters
bidding detail into the electronic bidding system and generates a Transaction
Registration Slip ("TRS") for each price and demand option and give the same
to the bidder.

• The Bidder can make the revision to the bid any number of times during the
Bidding Period. However, for any revision(s) in the Bid, the Bidders should
use the services of the same member of the Syndicate through whom he or
she had placed the original Bid.

• At the time of registering each Bid, the members of the Syndicate enters the
following details of the investor in the on-line system:
Underwriters:

• Normally Investment bankers act as underwriters.

• Underwriters may be any financial institutions such as banks, mutual funds,

brokers etc.

• An underwriter works closely with the issuing body to determine the offering price
of the securities buys them from the issuer and sells them to investors via the
underwriter's distribution network.

• Underwriters are intermediaries who undertake to subscribe to the securities

offered by the company in case these are not fully subscribed by the public, in
case of an underwritten issue.

• Underwriters generally receive underwriting fees from their issuing clients, but
they also usually earn profits when selling the underwritten shares to
investors.

• However, underwriters assume the responsibility of distributing a securities issue

to the public. If they can't sell all of the securities at the specified offering price,
they may be forced to sell the securities for less than they paid for them, or
retain the securities themselves.

• The underwriters are the middlemen between the company and the public.

• E.g. of underwriters: Goldman Sachs, Credit Suisse and Morgan Stanley to

mention a few.

• The deal could be a firm commitment where the underwriter guarantees that a
certain amount will be raised by buying the entire offer and then reselling to
the public, or best efforts agreement, where the underwriter sells securities for
the company but doesn’t guarantee the amount raised.

• Also to off shoulder the risk in the offering, there is a syndicate of underwriters
that is formed led by one and the others in the syndicate sell a part of the
issue.

Registrars:

• Registrars are appointed by the company in discussion with merchant bankers

to the issue.
• They are involved in finalizing the basis of allotment in a new issue and for
sending refunds, allotment etc.
• The Registrar finalizes the list of eligible allottees after deleting the invalid
applications and ensures that the corporate action for crediting of shares to
the demat accounts of the applicants is done and the dispatch of refund
orders to those applicable are sent.
The Lead Manager coordinates with the Registrar to ensure follow up so
that that the flow of applications from collecting bank branches, processing
 of the applications and other matters till the basis of allotment is finalized,
dispatch security certificates and refund orders completed and securities
listed.

Bankers to the Issue:

• Certain commercial banks act as collecting agents and few act as

coordinating bankers.

• “Banker to an issue” means a scheduled bank carrying on all or any of the

following activities, namely acceptance of application and application
monies, acceptance of allotment or call monies, refund of application
monies and payment of dividend or interest warrants.

• The Bankers to the Issue enable the movement of funds in the issue
process and therefore enable the registrars to finalize the basis of
allotment by making clear funds status available to the Registrars.
IPO Process:

1. Issuer Company - IPO Process Initialization

Appoint lead manager as book runner
Appoint registrar of the issue
Appoint syndicate member who are SCSB (Self Certified Syndicate
Banks)

2. Lead Manager's - Pre Issue Role - Part 1

Due diligence & Prepare draft offer prospectus document for
IPO
File draft offer prospectus with SEBI. the company will file a Form S-1
with the SEBI. This form will contain basic business and financial
information with respect to the securities offered.

Once the S-1 is approved by the SEBI, the underwriter will begin the
process of marketing the IPO/ Road shows for the IPO
to both private investors as well as institutional investors.

These investors can place "market orders" for shares of the IPO. No
shares can be sold at this point, only orders are recorded.

3. SEBI – Prospectus Review

SEBI review draft offer prospectus
Revert it back to Lead Manager if need clarification or changes (Step 2)
SEBI approve the draft offer prospectus, the draft offer prospectus is now

become Offer Prospectus

 4. Lead Manager - Pre Issue Role - Part 2
Submit the Offer Prospectus to Stock Exchanges, registrar of the issue and
get it approved

Decide the issue date & issue price band with the help of Issuer Company
Modify Offer Prospectus with date and price band. Document is now called
Red Herring Prospectus

Red Herring Prospectus & IPO Application Forms are printed and posted to
syndicate members; through which they are distributed to investors

5. Investor – Bidding for the public issue

Public Issue Open for investors bidding. The investors apply for the number of
securities they are willing to take
Investors fill the application forms and place orders to the syndicate members
(syndicate member list is published on the application form)

Syndicate members provide the bidding information to BSE/NSE

electronically and bidding status gets updated on BSE/NSE websites

Syndicate members send all the physically filled forms and cheques to the
registrar of the issue

Investor can revise the bidding by filling a form and submitting it to

Syndicate member

Syndicate members keep updating stock exchange with the latest data
Public Issue Closes for investors bidding

6. Lead Manager – Price Fixing

Based on the bids received, lead managers evaluate the final issue price
Lead managers update the 'Red Herring Prospectus' with the final issue price
and send it to SEBI and Stock Exchanges
 7. Registrar - Processing IPO Applications
Registrar receives all application forms & cheques from Syndicate members
They feed applicant data & additional bidding information on computer
systems

Find all bogus applications

Finalize the pattern for share allotment based on all valid bid received
Prepare 'Basis of Allotment'
Transfer shares in the demat account of investors and refund to those who
have been not allotted share

Lead manager – Stock Listing

Categories of Investors:
Investors are broadly classified under following categories-:
(i) Retail Individual Investor (RIIs)
(ii) Non-Institutional Investors (NIIs)
(iii) Qualified Institutional Buyers (QIBs)

Retail Individual Investor (RII)

• Resident Indian Individuals, NRIs and HUFs who apply for less than ₹2 lakhs in an IPO
under RII category.
• Not less than 35% of the Offer is reserved for RII category.
• NRI or HUF who applying in an IPO with less than ₹2,00,000 can apply in RII category.
• RII category allows bid at cut-off price.
Allotment Basis
• If IPO doesn't get over-subscribed in RII Category, full allotment to all applicants.
• If IPO is oversubscribed in this category - The allotment to each investor shall not be less than
the minimum Bid Lot, subject to availability of Equity Shares in the Retail Portion.
• For example, if the IPO subscribed 2 times in retail 1 out of 2 applicants will get 1 lot
irrespective of how many shares they applied for.

Non-institutional bidders (NII)

• Resident Indian individuals, Eligible NRIs, HUFs, companies, corporate bodies, scientific
institutions, societies and trusts who apply for than ₹2 lakhs of IPO shares falls under NII
category.
• NII need not to register with SEBI.
• Not less than 15% of the Offer is reserved for NII category.
• High Net-worth Individual (HNI) who applies for over ₹2 Lakhs in an IPO falls under this
category.
Allotment Basis - Proportionate.
• For example, if IPO is subscribed 100 times in NII category, investors who applied for 100
shares will get 1 share.
• NII quota get very high over-subscription as its size is small and many individual investors
take IPO Funding to apply in this category. Many of these investors apply for 100's of crore
rupees worth of shares under this category.
• Non-institutional bidders are permitted to withdraw their bids until the day of allotment.
• NII's are not eligible to bid at cut-off price.
Qualified Institutional Bidders (QIB's)
• Public financial institutions, commercial banks, mutual funds and Foreign Portfolio Investors
etc can apply in QIB category. SEBI registration is required for institutions to apply under
this category.
• 50% of the Offer Size is reserved for QIB's

Allotment Basis - Proportionate.

• QIBs are mostly representatives of small investors who invest through mutual funds, ULIP
schemes of insurance companies and pension schemes.
• QIB's are prohibited by SEBI guidelines to withdraw their bids after the close of the IPOs.
• QIB's are not eligible to bid at cut-off price.
 Pricing of an Issue (IPO):
• SEBI does not play any role in price fixation.
• The issuer in consultation with the merchant banker on the basis of market
demand decides the price.
• The offer document contains full disclosures of the parameters which are taken
in to account by merchant Banker and the issuer for deciding the price.
• The parameters include EPS, PE multiple, return on net worth and comparison
of these parameters with peer group companies.
• On the basis of pricing, an issue can be further classified into fixed price issue
or book building issue.
• In case of a fixed price issue the issuer at the outset decides the issue price and
mentions it in the Offer Document,
• whereas in case on a book built issue the price of an issue is discovered on the
basis of demand received from the prospective investors at various price
levels. Here the issuer sets a price range within which the investor is allowed
to bid for shares.
• The range (Price band consists of upper price and lower price) is
based on where comparable companies are trading and an estimate of
the value of the company that the market will bear.
• The investors then bid to purchase an agreed number of shares for a price
which they feel reflects fair value.
• By compiling a book of investors, the issuer can ascertain what price range the
shares should be valued at, based on the demand of the people who are going
to buy them, the investors. In this process supply and demand are matched.

Book Building Process:

• Book building is a process of price discovery.
• The issuer discloses a price band or floor price before opening of the issue of the securities
offered.
• On the basis of the demands received at various price levels within the price band specified
by the issuer, Book Running Lead Manager (BRLM) in close consultation with the issuer
arrives at a price at which the security offered by the issuer, can be issued.
• The price band is a band of price within which investors can bid.
• The spread between the floor and the cap of the price band cannot be more than 20 percent.
• The price band can be revised. If revised, the bidding period is extended for a further
period of three days, subject to the total bidding period not exceeding thirteen days.
• A floor price or price band within which the bids can move is disclosed at least two
working days before opening of the issue in case of an IPO and at least one day before
opening of the issue in case of an FPO.
• The applicants bid for the shares quoting the price and the quantity that they would like to
bid at. After the bidding process is complete, the ‘cut-off’ price is arrived at based on the
demand of securities. The basis of allotment is then finalized and allotment/refund is
undertaken.
• The final prospectus with all the details including the final issue price and the issue size is
filed with Registrar of Companies (ROC), thus completing the issue process. Only the retail
investors have the option of bidding at ‘cut-off’. Cut-off” option is available for only retail
 individual investors i.e. investors who are applying for securities worth up to `1,00,000/-
only. Such investors are required to tick the cut-off option which indicates their willingness
to subscribe to shares at any price discovered within the price band.
• Unlike price bids (where a specific price is indicated) which can be invalid, if price
indicated by applicant is lower than the price discovered, the cut-off bids always remain
valid for the purpose of allotment.
• The investor can change or revise the quantity or price in the bid using the form for
changing/revising the bid that is available along with the application form. However, the
entire process of changing or revising the bids is to be completed within the date of closure
of the issue.
• The investor can also cancel the bid anytime before the finalization of the basis of allotment
by approaching/ writing/ making an application to the registrar of the issue. The syndicate
member returns the counterfoil with the signature, date and stamp of the syndicate member.
Investor can retain this as a sufficient proof that the bids have been accepted by the trading /
syndicate member for uploading on the terminal.

Difference between Book Building Issue and Fixed Price Issue:

Features Fixed Price Process Book Building Process

Price at which the securities are Price at which securities will be offered/
Pricing offered/ allotted is known in allotted is not known in advance to the
advance to the investor. investor. Only an indicative price range is
known.
Demand for the securities offered Demand for the securities offered can be
Demand is known only after the closure of known everyday as the book is built.
the issue.

Payment if made at the time of Payment only after allocation

Payment subscription wherein refund is
given after allocation.
Red Herring Prospectus:
• The red herring prospectus contains substantial Information about the company,
including use of earnings from the offering, market potential for its product/service,
financial statements, details of officers, directors and major shareholders, pending
litigation, etc.
• Red Herring Prospectus is a prospectus, which does not have facts of either final price
or number of shares being offered, or the amount of issue.
• In the case of book-built issues, the price cannot be determined until the bidding
process is completed. Hence, such details are not shown in the Red Herring prospectus
filed with ROC in terms of the provisions of the Companies Act.
• Only on completion of the bidding process, the details of the final price are
encompassed in the offer document. The offer document filed afterward with ROC is
called a prospectus.

Applications Supported by Blocked Amount (ASBA):

• Application forms for applying/bidding for shares are available with all
syndicate members, collection centers, the brokers to the issue and the bankers
to the issue.
• In case applicant intend to apply through new process introduced by SEBI i.e.
Applications supported by blocked amount (ASBA), applicant may get the
ASBA application forms form the Self Certified Syndicate Banks.
● Previously, while relating to equity shares the money get transferred to the issuing
company whether the investors are lastly successful in getting allotment of shares
or not.
● If unsuccessful, the investors get back their money after certain period of time. As a
result the investors loose the interest.
● As per ASBA, the amount in the investor's bank account get blocked / freezed
and not transferred to the issuing company. The money gets transferred only
when shares allotted to the applicant.
Sweat Equity Shares:
“Sweat Equity Shares” means such equity shares as are issued by the Company to its
Directors or Employees at a discount or for consideration, other than cash, for
providing their know-how or making available rights in the nature of intellectual
property rights or value additions, by whatever name called.
The sweat equity shares shall be issued to the following category of employees which
includes:-
• Permanent employee of the Company whether working in India or outside India;
• Director of the Company, whether a whole-time Director or not;
• Employee or Director as mentioned above of a Subsidiary in India or outside India, or
of a Holding Company of the Company.
• For issue of sweat equity shares, Listed Company shall comply with the provisions of
Securities and Exchange Board of India (SEBI) Regulations on Sweat Equity and the
Company other than listed company shall comply with the provisions of Section 54 of
the Companies Act, 2013 and Rule 8 of Companies (Share Capital and Debentures)
Rules, 2014.
• Sweat equity share carries lock in period of 3 years.

Employee Stock Options (ESOP):

• It is a system by which a company allows its employees to purchase shares of
the company.
• Under this scheme, employees are granted options, which allows the employee to
buy the stock at a rate below the prevailing market value of the stock or the
employee is provided a certain percentage of his/her remuneration in stocks of the
company.
• ESOP is a contract that gives employees the right, but not obligation, to
purchase or subscribe to a specified number of shares of the company at a fixed
price, that is, the exercise price. The exercise price remains fixed even if the
market price goes up in future.

Reasons for Company offering Employee Stock Option:

• The trend of giving ESOPs is more prevalent in start ups, which cannot afford to
provide large compensation packages to its employees.
• By providing an employee with an ESOP, the employer gets the employee vested in the
interests of the company and provides the employee with a sense of ownership, thereby,
motivating the employee to perform a task with an actual vested interest in the company.
• Some companies provide ESOPs to employees which can be exercised on a future date,
to provide incentive for a long term commitment by the employee to the company.
 Secondary Market

Meaning of Secondary Markets:

• Secondary markets are the markets that deal in existing securities. Prevailing securities
are those securities that have already been issued and are already outstanding.
• Secondary market consists of stock exchanges. Stock exchanges are self- regulatory
bodies under the overall supervisory purview of the Govt. /SEBI.
• In the secondary market, the existing owner sells securities to another party. The
secondary markets support the primary markets.
• The secondary market delivers liquidity to the individuals who acquired these
securities.
• The primary market gets benefits greatly from the liquidity provided by the secondary
market. This is because investors would hesitate to buy the securities in the primary
market if they thought they could not sell them in the secondary market later.
• In India, stock market consists of recognized stock exchanges. In the stock exchanges,
securities issued by the central and state governments, public bodies, and joint stock
companies are operated.

Distinction between Primary Market and Secondary Market:

The focal points of distinction between the primary market and secondary market are as
follows:

Function: The foremost function of primary market is to raise long-term funds through fresh
issue of securities, whereas, the main function of secondary market is to provide continuous
and ready market for the existing long- term securities.

Participants: Although the major players in the primary market are financial institutions,
mutual funds, underwriters and individual investors, the major players in secondary
market are all of these and the stockbrokers who are members of the stock exchange.

Listing Requirement: Even though only those securities can be dealt with in the secondary
market, which have been approved for the purpose (listed), there is no such requirement in
case of primary market.

Mobilization of savings:

Capital Formation:

Determination of prices of securities: In instance of primary market, the prices are

determined by the management with due compliance with SEBI requirement for new issue of
securities. But in case of secondary market, the price of the securities is determined by forces
of demand and supply of the market and keeps on fluctuating.
Meaning of Stock Exchange:
• It is an organized market for the purchase and sale of securities of joint stock
companies, government and semi- govt. Bodies. It is the centre where shares,
debentures and govt. securities are bought and sold. In short these are market
places where securities that have been listed thereon may be bought and sold
for either investment or speculation.
• The Securities Contract (Regulation) Act 1956, defines a stock exchange as "an
association, organisation or body of individuals whether incorporated or not,
established for the purpose of assisting, regulating and controlling of business in
buying, selling and dealing in securities".

Characteristics of a Stock Exchange:

• It is an organized capital market.
• It could be incorporated or non incorporated body (association or body of individuals).
• It is an open market for the buying and selling of securities.
• Only listed securities can be allocated on a stock exchange.
• It works under established rules and regulations.
• The securities are bought and sold either for investment or for speculative purpose.

Functions of the Stock Exchange:

Liquidity: The stock exchange provides a place where shares and stocks are converted into
cash. People with surplus cash can invest in securities (by buying securities) and people with
deficit cash can sell their securities to convert the into cash.

Continuous market for securities: It provides a continuous and ready market for buying and
selling securities. It provides a ready market for those who wish to buy and sell securities.

Mobilization of savings and Investment: It helps in mobilizing savings and surplus funds of
individuals, firms and other institutions. It directs the flow of capital in the most profitable
channel.

Capital formation: The stock exchange publishes the correct prices of various securities. Thus
the people will invest in those securities which yield higher returns. It promotes the habit of
saving and investment among the public.

Economic development: It promotes industrial growth and economic development of the

country by encouraging industrial investments. New and existing concerns raise their capital
through stock exchanges.

Safeguards for investors: Investors' interests are very much protected by the stock exchange.
The brokers have to transact their business strictly according to the rules prescribed by the stock
exchange. Hence they cannot overcharge the investors. Securities market are well regulated by
SEBI.
Stock Indices:
• Indexes are constructed to measure the price movements of shares, bonds and other
types of instruments in market.
• A stock market index is a measurement which indicates the nature, direction and the
extent of day to day fluctuations in the stock prices.
• It is a simple indication of the trends in the market and investors' expectations about
future price movements.
• The stock market index is a barometer of market behaviour.
• It functions as an indicator of the general economic scenario of a country. If stock
market indices are growing, it indicates that the overall general economy of country is
stable if however the index goes down it shows some trouble in economy.

Stock Market Indices in India:

BSE Sensex (consists of 30 stocks).
S&P CNX Nifty. (consists of 50 stocks)
S&P CNX 500.
BSE 500.
BSE 100.
BSE 200/Dollex.
BSE IT.
BSE CG.
BSE FMCG.
S&P CNX Defty.

BSE Sensex:
• The 'BSE Sensex' or 'Bombay Stock Exchange is a weighted index composed
of 30 stocks and was inaugurated on January 1, 1986.
• The Sensex is viewed as the beat of the domestic stock markets in India. It
involves 30 largest and most actively traded stocks, representative of various
sectors, on the Bombay Stock Exchange.
• These companies account for around fifty per cent of the market capitalization of
the BSE.
S&P CNX Nifty:
• The Standard & Poor's CRISIL NSE Index 50 or S&P CNX Nifty nicknamed Nifty 50
or simply Nifty is the prominent index for large companies on the National Stock
Exchange of India.
• The Nifty is a well diversified 50 stock index accounting for 23 sectors of the
economy. It is used for a range of purposes such as benchmarking fund portfolios,
index based derivatives and index funds.
• Nifty is possessed and managed by India Index Services and Products Ltd. (IISL),
which is a joint venture between NSE and CRISIL.
• IISL is India's first specialized company aiming upon the index as a core product. IISL
has a marketing and licensing agreement with Standard and Poor's.
 Financial Instruments
Capital Market Instruments:
Ordinary Shares:
● Equity shares are issued to the owners of a company. Equity shares have a nominal or face value, typically Rs 1 or Rs 10. The market value of a quoted company's shares bears no
relationship to their nominal value.

● Equity shareholders are the ultimate bearers of risk as they are at the bottom of the creditor hierarchy in a liquidation.

● This means there is a significant risk they will receive nothing after all of the other trade payables have been paid.

● This greatest risk means that shareholders expect the highest return of long-term providers of finance. The cost of equity finance is therefore always higher than the cost of debt.

Characteristics:

● A public limited company may raise funds from promoters or from the investing public by way of owners' capital or equity capital by issuing ordinary equity shares. Some of the
characteristics of Equity Share Capital are :

● It is a source of permanent capital. The holders of such share capital in the company are called equity shareholders or ordinary shareholders.

● Equity shareholders are practically owners of the company as they undertake the highest risk.

● Equity shareholders are entitled to dividends after the income claims of other stakeholders are satisfied. The dividend payable to them an appropriation of profits and not a charge against
profits.

● In the event of winding up, ordinary shareholders can exercise their claim on assets after the claims of the other suppliers of capital have been met.

● The cost of ordinary shares is usually the highest. This is due to the fact that such shareholders expect a higher rate of return (as their risk is the highest) on their investment as compared to
other suppliers of long-term funds.

● Ordinary share capital also provides a security to other suppliers of funds. Any institution giving loan to a company would make sure the debt-equity ratio is comfortable to cover the debt.
Advantages:
● It is a permanent source of finance. Since such shares are not redeemable, the company has no liability for cash outflows associated with its redemption.

● Equity capital increases the company's financial base and thus helps further the borrowing powers of the company.

● The company is not obliged legally to pay dividends. Hence in times of uncertainties or when the company is not performing well, dividend payments can be reduced or even suspended.

● The company can make further issue of share capital by making a right issue.

Disadvantages:
● The cost of ordinary shares is higher because dividends are not tax deductible and also the flotation costs of such issues are higher.

● Investors find ordinary shares riskier because of uncertain dividend payments and capital gains.

● The issue of new equity shares reduces the earning per share of the existing shareholders untill and unless the profits are proportionately increased.

● The issue of new equity shares can also reduce the ownership and control of the existing shareholders.

Preference Share Capital:

Characteristics:
These are a special kind of shares; the holders of such shares enjoy priority, boch as regards to the payment of a fixed amount of dividend and repayment of capital on winding up of the
company. Some of the characteristics of Preference Share Capital are:

● Long-term funds from preference shares can be raised through a public issue of shares.

● Such shares are normally cumulative, i.e., the dividend payable in a year of loss gets carried over to the next year till there are adequate profits to pay the cumulative dividends.

● The rate of dividend on preference shares is normally higher than the rate of interest on debentures, loans etc.
 ● Most of preference shares these days carry a stipulation of period and the funds have to be repaid at the end of a stipulated period.

● Preference share capital is a hybrid form of financing with some characteristics of equity capital and some of debt capital It is similar to equity because preference dividend, like equity
dividend is not a tax deductible payment. It resembles debt capital because the rate of preference dividend is fixed.

● Cumulative Convertible Preference Shares (CCPs) may also be offered, under which the shares would carry a cumulative dividend of specified limit for a period of say three years after
which the shares are converted into equity shares. These shares are attractive for projects with a long gestation period.

● Preference share capital may be redeemed at a pre-decided future date or at an earlier stage inter alia out of the profits of the company This enables the promoters to withdraw their capital
from the company which is now self-sufficient, and the withdrawn capital may be reinvested in other profitable ventures.

Advantages:

● No dilution in EPS on enlarged capital base- If equity is issued it reduces EPS, thus affecting the market perception about the company.

● There is leveraging advantage as it benrs a fixed charge. Non-payment of preference dividends does not force company into liquidity.

● There is no risk of takeover as the preference shareholders do not have voting rights except in case where dividend arrears exist.

● The preference dividends are fixel and pre-decided. Hence Preference shareholders do not participate in surplus profits as the ordinary shareholders.

● Preference capital can be redeemed after a specified period.

Disadvantages

● One of the major disadvantages of preference shares is that preference dividend is not tax deductible and so does not provide a tax shield to the company . Hence a preference share is
costlier to the company than debt eg debenture.

● Preference dividends are cumulative in nature. This means that although these dividends may be omitted, they shall need to be paid later. Also, if these dividends are not paid, no dividend
can be paid to ordinary shareholders. The non-payment of dividend to ordinary shareholders could seriously impair the reputation of the company concerned.
CREDITORSHIP SECURITIES

1. Reasons for seeking debt finance: Sometimes businesses may need long-term funds, but may not wish to issue equity capital. Perhaps the current shareholders will be unwilling to contribute
additional capital; possibly the company does not wish to involve outside shareholders who will have more expectations than current members. Other reasons for choosing debt finance may include
lesser cost and easier availability, particularly if the company has little or no existing debt finance. Debt finance provides tax relief on interest payments.

2. Sources of debt finance: If a company does wish to raise debt finance, it will need to consider what type of finance will be available. If it is seeking medium-term bank finance, it ought to be in
the form of a loan, although an overdraft is a virtually permanent feature of many companies' statements of financial position. Bank finance is a most important source of debt for small companies. If
a company is seeking to issue bonds, it must decide whether the bonds will be repaid (redeemed), whether there will be conversion rights into shares, and whether warrants will be attached.

3. Factors influencing choice of debt finance: The following considerations influence what type of debt finance is sought.

(a) Availability: Only listed companies will be able to make a public issue of bonds on a stock exchange; smaller companies may only be able to obtain significant amounts of debt finance from their
bank.

(b) Duration: If loan finance is sought to buy a particular asset to generate revenues for the business, the length of the loan should match the length of time that the asset will be generating revenues.

(c) Fixed or floating rate: Expectations of interest rate movements will determine whether a company chooses to borrow at a fixed or floating rate. Fixed rate finance may be more expensive, but
the business runs the risk of adverse upward rate movements if it chooses floating rate finance.

(d) Security and covenants: The choice of finance may be determined by the assets that the business is willing or able to offer as security, also on the restrictions in covenants that the lenders wish
to impose.
DEBENTURES OR BONDS

1. Meaning: Loans can be raised from public by issuing debentures or bonds by public limited
companies. Bonds are long-term debt capital raised by a company for which interest is paid, usually half yearly and at a fixed rate Holders of bonds are therefore long-term payables for the company.
The term bonds describes various forms of long-term debt a company may issue, such as loan notes or debentures, which may be Redeemable or Irredeemable. Bonds have a nominal value, which is
the debt owed by the company, and interest is paid at a stated 'coupon' on this amount. For example, if a company issues 10% bonds, the coupon will be 10% of the nominal value of the bonds, so
that 100 of bonds will receive 10 interest each year. The rate quoted is the gross rate, before tax. Unlike shares, debt is often issued at par, i.e. with 100 payable per 100 nominal value. Where the
coupon rate is fixed at the time of issue, it will be set according to prevailing market conditions given the credit rating of the company issuing the debt. Subsequent changes in market (and company)
conditions will cause the market value of the bond to fluctuate, although the coupon will stay at the fixed percentage of the nominal value. Debentures are a form of loan note, the written
acknowledgement of a debt incurred by a company, normally containing provisions about the payment of interest and the eventual repayment of capital.

2. Security: Bonds will often be secured. Security may take the form of either a fixed charge or a floating charge.

Fixed Charge

• Security relates to specific asset/group of assets (land and buildings).

• Company can't dispose of assets without providing substitute / consent of lender.

Floating Charge

• Security in event of default is whatever assets of the class secured (inventory/ trade receivables) company then owns.
• Company can dispose of assets until default takes place. In event of default lenders appoint receiver rather than lay claim to asset.

Not all bonds are secured. Investors are likely to expect a higher yield with unsecured bonds to compensate them for the extra risk.
3. Tax relief on loan interest: As far as companies are concerned, debt capital is a potentially attractive source of finance because interest charges reduce the profits chargeable to corporation

(a) A new issue of bonds is likely to be preferable to a new issue of preference shares (preference share are shares carrying a fixed rate of dividends).

(b) Companies might wish to avoid dilution of shareholdings and increase gearing (the ratio of fixed interest capital to equity capital) in order to improve their earnings per share by benefiting from
tax relief on interest payments.

4. Characteristics : Some of the characteristics of Debentures or Bonds are

(a) Debentures are normally issued in different denominations ranging from 100 to 1,000 and carry different rates of interest.

(b) Normally, debentures are issued on the basis of a debenture trust deed which lists the terms and conditions on which the debentures are floated.

(c) Debentures are either secured or unsecured.

(d) The cost of capital raised through debentures is quite low since the interest payable on debentures can be charged as an expense before tax.

(e) From the investors' point of view, debentures offer a more attractive prospect than the preference shares since interest on debentures is payable whether or not the company makes profits.

(f) Debentures are thus instruments for raising long-term debt capital.

5. Categories: Debentures can be divided into the following three categories:

(i) Non-convertible debentures: These types of debentures do not have any feature of conversion and are repayable on maturity.

(ii) Fully convertible debentures : Such debentures are converted into equity shares as per the terms of issue in relation to price and the time of conversion. Interest rates on such debentures are
generally less than the non-convertible debentures because of their carrying the attractive feature of getting themselves converted into shares.

(iii) Partly convertible debentures: Those debentures which carry features of a convertible and a non-convertible debenture belong to this category. The investor has the advantage of
having both the features in one debenture. The issue of convertible debentures has distinct advantages from the point of view of the issuing company. Firstly, such an issue enables the management
to raise equity capital indirectly without diluting the equity holding, until the capital raised has started earning an added return to support the additional shares. Secondly, such securities can be issued
even when the equity market is not very good. Thirdly, convertible bonds are normally unsecured and, therefore, their issuance may ordinarily not impair the borrowing capacity.

6. Advantages:

(i) The cost of debentures is much lower than the cost of preference or equity capital as the interest is tax-deductible. Also, investors consider debenture investment safer than equity or preferred
investment and, hence, may require a lower return on debenture investment.
(ii) Debenture financing does not result in dilution of control.

(iii) In a period of rising prices, debenture issue is advantageous. The fixed monetary outgo decreases in real terms as the price level increases.

7. Disadvantages:

(i) Debenture interest and capital repayment are obligatory payments.

(ii) The protective covenants associated with a debenture issue may be restrictive.
(iii) Debenture financing enhances the financial risk associated with the firm.
(iv) Since debentures need to be paid during maturity, a large amount of cash outflow is needed at that time.

Public issue of debentures and private placement to mutual funds now require that the issue be rated by a credit rating agency like CRISIL (Credit Rating and Information Services of India Ltd.). The
credit rating is given after evaluating factors like track record of the company, profitability, debt servicing capacity, credit worthiness and the perceived risk of lending.
Money Market Instruments:

MONEY MARKET INSTRUMENTS

Money Market" refers to the market for short-term requirement and deployment of funds.
Money market instruments are those instruments, which have a maturity period of less than one year.
The below mentioned instruments are normally termed as money market instruments:

GOVERNMENT SECURITIES (G- Secs)

• Issued by the Government for raising a public loan

• G-secs are interest bearing dated securities which are issued by RBI on behalf of Govt. of India (GOI).
• GOI uses these borrowed funds to meet its fiscal deficit, while temporary cash mismatches are met through treasury bills of 91 days.
• G-secs consist of Government Promissory Notes, Bonds, Treasury Bills or Dated Government Securities.
• Government bonds are theoretically risk free bonds, because governments can, up to a point, raise taxes, reduce spending, and take various measures to redeem the bond at maturity.

Features of Government Securities

• Usually Issued and redeemed at face value

• No default risk as the securities carry sovereign guarantee.

• Ample liquidity as the investor can sell the security in the secondary market

• Interest payment on a half yearly basis on face value

• No tax deducted at source

• Rate of interest and tenure of the security is fixed at the time of issuance.

• Redeemed at face value on maturity

• Maturity ranges from of 2-30 years.

TREASURY BILLS

• short term (up to one year) borrowing instruments of the Government of India
• discounted securities
• The return to the investor is the difference between the maturity value and issue price.
• Individuals, Firms, Companies, Corporate bodies, Trusts and Institutions can purchase Treasury Bills.
• At present, RBI issues T-Bills for three different maturities: 91 days, 182 days and 364 days.
• Treasury Bills are available for a minimum amount of Rs.25,000 and in multiples of Rs. 25,000 thereafter.

Advantages of investing in Treasury Bills:

• No Tax Deducted at Source (TDS)

• Zero default risk as these are the liabilities of GOI

• Liquid money Market Instrument

• Active secondary market thereby enabling holder to meet immediate fund requirement.
 MONEY MARKET AT CALL AND SHORT NOTICE
• money at call is a loan that is repayable on demand, and money at short notice is repayable within 14 days of serving a notice.
• The participants are banks & all other Indian Financial Institutions as permitted by RBI.
• The market is over the telephone market, non bank participants act as lender only. Banks borrow for a variety of reasons to maintain their CRR, to meet their heavy payments, to
adjust their maturity mismatch etc.

MONEY MARKET MUTUAL FUNDS (MMMFs)

• A money market fund is a mutual fund that invests solely in money market instruments.
• Money market instruments are forms of debt that mature in less than one year and are very liquid.
• Securities in the money market are relatively risk-free.
• Money market funds are generally the safest and most secure of mutual fund investments.
• The goal of a money-market fund is to preserve principal while yielding a modest return by investing in safe and stable instruments issued by governments, banks and corporations
etc.

CERTIFICATES OF DEPOSITS

• A CD is a time deposit, financial product commonly offered to consumers by banks.

• In case of CDs the banks issue a certificate for a deposit made, such certificate is transferable, i.e. holder of CD is holder of deposit.
• CDs issued by banks should not have the maturity less than seven days and not more than one year.
• Financial Institutions are allowed to issue CDs for a period between 1 year and up to 3 years.
• They normally give a higher return than Bank term deposit
• CDs are rated by approved rating agencies (e.g. CARE, ICRA, CRISIL, and FITCH) which considerably enhance their tradability in the secondary market, depending upon demand.
• CDs can be issued to individuals, corporations, trusts, funds and associations.
• They are issued at a discount rate freely determined by the issuer and the market/investors.
• CDs are issued in denominations of Rs.1 Lac and in the multiples of Rs. 1 Lac thereafter.
• Loans cannot be granted against CDs
COMMERCIAL BILLS

• Commercial bill is a short term, negotiable, and self-liquidating instrument with low risk.
• It enhances the liability to make payment within a fixed date when goods are bought on credit.
• Bills of exchange are negotiable instruments drawn by the seller (drawer) on the buyer (drawee) or the value of the goods delivered to him. Such bills are called trade bills.
• When trade bills are accepted by commercial banks, they are called commercial bills.
• The bank discount this bill by keeping a certain margin and credits the proceeds.
• The maturity period of the bills varies from 30 days, 60 days or 90 days.

COMMERCIAL PAPER
• Commercial Paper is a money-market security issued (sold) by large banks and corporations to get money to meet short term debt obligations , and is only backed by an issuing
bank or corporation's promise to pay the face amount on the maturity date specified on the note.
• Since it is not backed by collateral, only firms with excellent credit ratings from a recognized rating agency will be able to sell their commercial paper at a reasonable price.
Commercial paper is usually sold at a discount from face value, and carries shorter repayment dates than bonds.
• The longer the maturity on a note, the higher the interest rate the issuing institution must pay.
• Interest rates fluctuate with market conditions, but are typically lower than banks' rates.
• Corporate Borrowers, especially the large and financially sound, can diversify their short term borrowing by the issue of Commercial Paper.
• Maturity: 7days -1 year
GILT EDGED GOVERNMENT SECURITIES

• These are issued by governments such as Central Government, State Government,

Semi Government authorities, City Corporations, Municipalities, Port trust, State
Electricity Board, Housing boards etc.
• The gilt-edged market refers to the market for Government and semi-government
securities, backed by the Reserve Bank of India(RBI).
• Government securities are tradable debt instruments issued by the Government for
meeting its financial requirements.
• The term gilt-edged means 'of the best quality'. This is because the Government
securities do not suffer from risk of default and are highly liquid (as they can be
easily sold in the market at their current price).
• The open market operations of the RBI are also conducted in such securities.

BANKER’S ACCEPTANCE

• It is a short-term credit investment. It is guaranteed by a bank to make payments.

• The Banker's Acceptance is traded in the Secondary market.
• The banker's acceptance is mostly used to finance exports, imports and other
transactions in goods.
• The banker's acceptance need not be held till the maturity date but the holder has the
option to sell it off in the secondary market whenever he finds it suitable.

REPOS

• The Repo or the repurchase agreement is used by the government security holder
when he sells the security to a lender and promises to repurchase from him at a
specified time.
• Hence the Repos have terms raging from 1 night to 30 days.
• They are very safe due to government backing.
Derivative
Derivatives are financial contracts whose value/price is dependent on the behavior of the price of
one or more basic underlying asset (often simply known as underlying).
The Underlying asset can be share, index, interest rate, bond ,rupee dollar exchange rate ,sugar ,
crude oil, soya been, coffee etc.

A simple example of derivative is curd, which is derivative of milk. The price of curd depends
upon price of milk which in turn depends upon the demand and supply of milk.

DERIVATIVE INSTRUMENTS
A) Forward Contract
• “A contract that commits one party to buy and other to sell a given quantity of an asset
for fixed price on specified future date”.
• In Forward Contracts one of the parties assumes a long position and agrees to buy the
underlying asset at a certain future date for a certain price.
• The specified price is called the delivery price.
• The contract terms like delivery price, quantity are mutually agreed upon by the
parties to contract. No margins are generally payable by any of the parties to the
other.
Features of Forward Contract
• It is negotiated contract between two parties i.e. Forward contract being a bilateral
contracts, hence exposed to counterparty risk.
• Each Contract is custom designed and hence unique in terms of contract size, expiration
date, asset quality, asset type etc.
• A contract has to be settled in delivery or cash on expiration date
 B) FUTURES
• A Future contract is an agreement between two parties to buy or sell an asset at a certain
time in future at a certain price.
• Future contracts are special type of forward contracts in the sense that the former are
standardized exchange-traded contracts.

In other words
• A future contract is one in which one party agrees to buy from/ sell to the other party a
specified asset at price agreed at the time of contract and payable on future date.
• The agreed price is known as strike price.
• The underlying asset can be commodity, currency debt, or equity.
• The Futures are usually performed by payment of difference between strike price and
market price on fixed future date and not by the physical delivery and payment in full on
that date.

Features of Future Contract

• An organized exchange.
• Unlike the Forwards, the Future contracts are standardized contracts and are traded on
stock exchange
• It is standardized contract with standard underlying instruments, a standard quantity and
quality of the underlying instrument that can be delivered and standard time for such
settlement transactions.
• Existence of a regulatory authority.
• Margin requirements and daily settlement to act as a safeguard.
• Leveraged positions--only margin required.
• Trading in either direction--short/long
• Index trading.
• Hedging/Arbitrage opportunity.

Example
On 1st September Mr. A enters into Futures contract to purchase 100 equity shares of X Ltd at an
agreed price of Rs 100 in December. If on maturity date the price of equity stock rises to Rs120
Mr. A will receive Rs 20 per share and if the price of share falls to Rs 90 Mr. A will pay Rs 10
per share. As compared to forward contract the futures are settled only by the difference between
the strike price and market price as on maturity date.
 C) Options

• Options are contracts that give the buyers the right (but not the obligation) to buy or sell a
specified quantity of certain underlying assets at a specified price on or before a specified
date.

• On the other hand, the seller is under obligation to perform the contract (buy or sell).

• The underlying asset can be a share, index, interest rate, bond, rupee-dollar exchange rate,
sugar, crude oil, Soya bean, cotton, coffee etc.
• An option contract is a unilateral agreement in which one party, the option writer, is
obligated to perform under the contract if the option holder exercises his or her
option.
• (The option holder pays a fee or "premium" to the writer for this option.)
• The option holder, however, is not under any obligation and will require performance
only when the exercise price is favorable relative to current market prices.
• If, on the one hand, prices move unfavorably to the option holder, the holder loses
only the premium.
• If, on the other hand, prices move favorably for the option holder, the holder has
theoretically unlimited gain at the expense of the option writer.
• In an option contract the exercise price (strike price), delivery date (maturity date or
expiry), and quantity and quality of the commodity are fixed.

There are two basic types of options-call and put.

• A call option gives an investor right to buy underlying item during specified period of
time at an agreed upon price while put option confers the right to sell it.

• American options can be exercised at any time between the date of purchase and the
expiration date. Most exchange-traded options are of this type.
• European options are different from American options in that they can only be exercised
at the end of their lives.

For example,
suppose X holding a security of Rs 1000 buys an option to put the security at its current price with
Y. Now if the price of the security goes down to Rs. 900. X may exercise the option of selling the
security to Y at the agreed price of Rs. 1000 and protect against the loss on account of decline in the
market value. If, on the other hand, the price of the security goes upto Rs. 1100, X is out of the
money and does not gain by exercising the option to sell the security at a price of Rs. 1000 as
agreed. Hence, X will not exercise the option. In other words, the option buyer can only get paid and
does not stand to a position of loss
 Call Option
The option that gives the buyer the right to buy is called a call option.
A call option grants the holders of the contract the right, but not the obligation, to purchase a
good from the writer of the option in consideration for the payment of cash (the option
premium).

Example: Suppose you have bought a call option of 2,000 shares of Hindustan Lever Ltd (HLL)
at a strike price of Rs250 per share. This option gives you the right to buy 2,000 shares of HLL at
Rs250 per share on or before March 28, 2006. The seller of this call option who has given you
the right to buy from him is under the obligation to sell 2,000 shares of HLL at Rs250 per share
on or before specified date say March 28, 2004 whenever asked.

Put Option
The option that gives the buyer the right to sell is called a put option.
A put option grants the holder the right, but not the obligation, to sell the underlying good to the
option writer.
Suppose you bought a put option of 2,000 shares of HLL at a strike price of Rs250 per share.
This option gives its buyer the right to sell 2,000 shares of HLL at Rs250 per share on or before
specified date say March 28, 2006. The seller of this put option who has given you the right to
sell to him is under obligation to buy 2,000 shares of HLL at Rs250 per share on or before March
28, 2006 whenever asked.

D) SWAP
• A swap is contract whereby parties agree to exchange obligations that each of them have
under their respective underlying contracts or we can say a swap is an agreement
between two or more parties to exchange sequence of cash flows over a period in future
.
• The parties that agree to swap are known as counterparties.

• Swap is an agreement between two counterparties to exchange two streams of cash

flows—the parties "swap" the cash flow streams. Those cash flow streams can be
defined in almost any manner.

Types of SWAP

Interest Rate Swap

In interest rate swap one party agrees to make fixed rate interest payment in return for floating –
rate interest payments from counterparty, with interest rate payment based on a hypothetical
amount of principal called notional amount.
Notional amount typically do not change hands and is simply used to calculate payments.
Currency Swap
A currency swap is a form of swap. It is most easily understood by comparison with an interest
rate swap. An interest rate swap is a contract to exchange cash flow streams that might be
associated with some fixed income obligations—say swapping the cash flows of a fixed rate
loan for those of a floating rate loan. A currency swap is exactly the same thing except, with an
interest rate swap, the cash flow streams are in the same currency. With a currency swap, they
are in different currencies.
 Financial Service
Meaning:

In general, all types of activities which are of financial nature and provided by the finance industry may be regarded as
financial services.

Financial services may be defined as the products and services offered by financial institutions for the facilitation of
various financial transactions and other related activities.

Characteristics or Nature of Financial Services:

Intangibility: Financial services are intangible. Therefore, they cannot be standardized or reproduced in the same form.
They can’t be seen.

Inseparability: Both production and supply of financial services have to be performed simultaneously in presence of
both. Hence, there should be perfect understanding between the financial service institutions and its customers.

Perishability: Like other services, financial services also require a match between demand and supply. Services cannot
be stored.. They have to be supplied when customers need them.

Variability/Dynamism: In order to cater a variety of financial and related needs of different customers in different areas.
This means the financial services have to be tailor-made to the requirements of customers. The service institutions
differentiate their services to develop their individual identity .It means that quality of services keeps changing

Dominance of human element: Financial services are dominated by human element. Thus, It requires competent and
skilled personnel to market the quality financial products.

Information based: Financial service industry is an information based industry. Information is an essential component in
the production of financial services.

Customer Oriented: While providing financial services,Service provider has to keep the customer need in the mind
before catering to client.

Importance of Financial Services:

1. Economic growth: The financial service industry mobilizes the savings of the people, and channels them into
productive investments by providing various services to people in general and corporate enterprises in particular.
In short, the economic growth of any country depends upon these savings and investments.

2. Promotion of savings and channelization of funds: The financial service industry mobilizes the savings of the
people by providing transformation services. It provides liability, asset and size transformation service by
providing huge loan from small deposits collected from a large number of people. In this way financial service
industry promotes savings .It helps in financial deepening and broadening.

3. Capital formation: Financial service industry facilitates capital formation by rendering various capital market
intermediary services.

4. Creation of employment opportunities: The financial service industry creates and provides employment
opportunities.

5. Contribution to GDP and GNP: Recently the contribution of financial services to GNP has been increasing year
after year in almost countries.

6. Provision of liquidity: The financial service industry promotes liquidity in the financial system. It facilitates easy
conversion of financial assets into liquid cash.
 Classification of Financial Services
The financial services can be broadly classified into two: (a) fund based services and (b) non-fund services (or fee-based
services)

Fund based Services

 Underwriting

 Dealing in secondary market activities

 Equipment leasing or lease financing

 Hire purchase

 Venture capital

 Bill discounting.

 Insurance services

 Factoring

 Forfaiting

 Housing finance

 Mutual fund

Non-fund/fee based Services

 Merchant banking

 Venture capital (Risk Capital)

 Issue management

 Credit rating

 Loan syndication

 Project advisory services

 Portfolio management

 Merger and acquisition

 Capital restructuring

 Debenture trusteeship

 Custodian services

 Stock broking

 Corporate Counseling

Merchant Banking:

 Merchant Banking services are provided by Merchant Banks. The term merchant bank refers to a financial
institution that conducts underwriting, loan services, financial advising, and fundraising services for large
 corporations and high-net-worth individuals (HWNIs).

Merchant Banking services provided by Merchant Banker:

Issue Management of debt and equity offerings- merchant banker assists the companies in raising funds from the
market. The main areas of work in this regard include:
 Merchant Banker act as intermediaries in purchase and sale of securities in the primary market.
 Instrument designing, i.e deciding the number of stocks to be issued, the price at which the stock will be
issued, and the timing of the release of this new stock.
 Filing of all the paperwork required with the various market authorities stock and registration of offer
document
 Performs underwriting function
 Marketing/Roadshow of the issue
 allotment and refund
 listing on stock exchanges.
Placement and distribution- The merchant banker helps in distributing various securities like equity Bond etc through
their distribution network.

Corporate advisory/consultancy services- Merchant bankers offer customized solutions to their clients financial
problems by providing consultancy services.

Project advisory services- Merchant bankers help their clients in various stages of the project undertaken by the
clients. They assist them in conceptualising and implementing the project

Loan syndication- Merchant bankers arrange to tie up loans for their clients. This takes place in a series of steps. Firstly
they analyse the pattern of the client’s cash flows, based on which the terms of borrowings can be defined. Then the
merchant banker prepares a detailed loan memorandum, which is circulated to various banks and financial institutions
and they are invited to participate in the syndicate. The banks then negotiate the terms of lending on the basis of which
the final allocation is done.

Providing venture capital and mezzanine financing- Merchant bankers help companies in obtaining venture capital
financing for financing their new and innovative strategies.

In India, the Securities and Exchange Board of India (SEBI) classifies merchant bankers into four categories based on
permissible activity and capital adequacy norms (see table below).
 Category 1 can Act as Issue Manager, underwriter, advisor, consultant or portfolio manager and should have
Minimum net worth of Rs.5 cr
 Category 2 can Act as co-manager, underwriter, advisor, consultant or portfolio manager and should have
Minimum net worth of Rs.50 lakhs
 Category 3 can Act as co-managers without undertaking portfolio management and should have Minimum net
worth of Rs.20 lakhs
 Category 4 Only act as an advisor or consultant for the issue Nil

Consumer finance:
The term consumer finance refers to the activities involved in granting credit to consumers to enable them to possess goods
meant for everyday use.
Sources of Consumer Finance:
 Traders: The predominant agencies that are involved in consumer finance are traders. They include sales finance
companies, hire purchase and other such financial institutions.
  Commercial Banks: Commercial Banks provide finance for consumer durables. Banks lend large sum of money
at wholesale rate to commercial or sales finance companies, hire purchase concerns and other such finance
companies. Banks also provide consumers personal loans meant for purchasing consumer durable goods.
 Credit Card Institutions: These institutions arrange for credit purchase of consumer goods through respective
banks which issue the credit cards. The credit card system enables a person to buy credit card services on credit.
On presentation of credit card by the buyer, the seller prepares 3 copies of the sales voucher, one for seller,
bank/credit card company and 3rd for the buyer. The seller forwards a copy to the bank for collection. The seller’s
bank forwards all such bills to the card issuing bank or company. The bank debits the amount to the customers
account. The buyer receives monthly statement from the card issuing bank or company and the amount is to be
paid within a period of 20 to 45 days without any additional charges.
 (NBFC’s):Non banking Financial companies constitute an important source of consumer finance. Consumer
finance companies also known as small loan companies or personal finance
 Credit Unions: A credit union is an association of people who agree to save their money together and in turn
provide loans to each other at a relatively lower rate of interest. These are caller co-operative credit societies.
They are non profit deposit taking and low cost credit institutions.

Loan Syndication:
 Loan Syndication refers to services rendered by an organization in arranging and procuring credit from financial
institutions, banks, other lending and investment companies for financing the project or meeting the working
capital requirements.
 Loan syndications is responsible for arranging co-financing with commercial banks and other financial
institutions directly or indirectly with export credit agencies.
 Loan syndication refers to assistance rendered by merchant banks to get mainly term loans for projects. Such
loans may be obtained from a single financial institution or a syndicate or consortium.
 Merchant bankers provide help to corporate clients to raise syndicated loans from commercial banks. Merchant
bankers help corporate clients to raise syndicated loans from commercial banks.
 The need for syndication arises as the size of the loan is huge and a single bank cannot bear the whole risk of
lending. Also the corporate going for the issue is not aware about the banks which are willing to lend. Hence
syndication assumes significance.
 In the case of syndication the risk gets diversified. The process of syndication starts with an invitation for bids
from the borrower. The borrower mentions the funds requirement, currency, tenor etc. the mandate is given to a
particular bank or an institution that will take the responsibility of syndicating the loan by arranging for financing
the banks.
 Syndication is done on a best effort basis or on underwriting basis. It is usually the lead manager who acts a
syndicator of loans. The lead manager has dual tasks i.e. formation of syndicate documentation and loan
agreement.
 Common documentation is signed by the participating banks on the common terms and conditions.
 The advantages of syndicated loans are the size of the loan, speed and certainty of funds, maturity profile of the
loan, flexibility in repayment, lower cost of funds, diversity of currency, simpler banking relationships and
possibility of renegotiation.
 Borrowers taking out syndicated loans pay upfront fees and annual charges to the participating banks, with
interest accruing (on a quarterly, monthly, or semi annual basis) from the initial draw-down date. "One advantage
of syndication loans is that this market allows the borrower to access from a diverse group of financial
institutions,” In general, borrowers can raise funds more cheaply in the syndicated loan market than they can
borrowing the same amount of money through a series of bilateral loans.

Mutual Fund:

Mutual fund is a trust that pools the savings of investors. The money collected is then invested in financial market
instruments such as shares, debentures and other securities. The income earned through these investments and the capital
appreciations realized are shared by its unit holders in proportion to the number of units owned by them. Thus mutual
fund invests in a variety of securities (called diversification). Diversification reduces the risk because all stock and/ or
debt instruments may not move in the same direction. The Sponsor is the promoter of mutual funds.

Types of Mutual Funds

On the basis of Structure
Close ended funds: Under this type of fund, the size of the fund and its duration are fixed in advance. Once the
subscription reaches the predetermined level, the entry of investors will be closed. After the expiry of the fixed period, the
entire corpus is disinvested and the proceeds are distributed to the unit holders in proportion to their holding.

Open-ended funds: This is the just reverse of close-ended funds. Under this scheme the size of the fund and / or the
period of the fund is not fixed in advance. The investors are free to buy and sell any number of units at any point of time.

Interval funds: A mutual fund wherein the fund house allows to purchase/sell the units only during a particular pre-
decided time period.
On the basis of return/ income

Income fund: This scheme aims at generating regular and periodical income to the members. Such funds are offered in
two forms. The first scheme earns a target constant income at relatively low risk. The second scheme offers the
maximum possible income.

Growth fund: Growth fund offers the advantage of capital appreciation. It means growth fund concentrates mainly on
long run gains. It does not offers regular income. In short, growth funds aim at capital appreciation in the long run.

Conservative fund: This aims at providing a reasonable rate of return, protecting the value of the investment and getting
capital appreciation. Hence the investment is made in growth oriented securities that are capable of appreciating in the
long run.

On the basis of Investment:

Equity fund: it mainly consists of equity based investments. It carried a high degree of risk. Such funds do well in periods
of favourable capital market trends.
Bond fund: It mainly consists of fixed income securities like bonds, debentures etc. It concentrates mostly on income
rather than capital gains. It carries lower risk. It offers secure and steady income. But there is no chance of capital
appreciation.
Balanced fund: It has a mix of debt and equity in the portfolio of investments. It aims at distributing regular income as
well as capital appreciation. This is achieved by balancing the investments between the high growth equity shares and also
the fixed income earning securities.
Fund of fund scheme: In this case funds of one mutual fund are invested in the units of other mutual funds.
Taxation fund: This is basically a growth oriented fund. It offers tax rebates to the investors. It is suitable to salaried
people.
Leverage fund: In this case the funds are invested from the amounts mobilized from small investors as well as money
borrowed from capital market. Thus it gives the benefit of leverage to the mutual fund investors. The main aim is to
increase the size of the value of portfolio. This occurs when the gains from the borrowed funds are more than the cost of
the borrowed funds. The gains are distributed to unit holders.
Index bonds: These are linked to a specific index of share prices. This means that the funds mobilized under such schemes
are invested principally in the securities of companies whose securities are included in the index concerned and in the same
proportion. The value of these index linked funds will automatically go up whenever the market index goes up and vice
versa.
Money market mutual funds: These funds are basically open ended mutual funds. They have all the features of open
ended mutual funds. But the investment is made is highly liquid and safe securities like commercial paper, certificates of
deposits, treasury bills etc. These are money market instruments.
Off shore mutual funds: The sources of investments for these funds are from abroad.
Guilt funds: This is a type of mutual fund in which the funds are invested in guilt edged securities like government
securities. It means funds are not invested in corporate securities like shares, bonds etc
Advantages (Importance) of Mutual Funds:

Mobilise small savings: Mutual funds mobilize small savings from the investors by offering various schemes. These
schemes meet the varied requirements of the people. The savings of the people are channelized for the development of
the economy.

Diversified investment: The mutual funds provide this opportunity to investors. The investors can enjoy the wide
portfolio of the investments held by the fund. It diversified its risks by investing in a variety of securities (equity shares,
bonds etc.) The small and medium investors cannot do this.

Provide better returns: Mutual funds can pool funds from a large number of investors. In this way huge funds can be
mobilized. Because of the huge funds, the mutual funds are in a position to buy securities at cheaper rates and sell
securities at higher prices.

Better liquidity: At any time the units can be sold and converted into cash. Whenever investors require cash, they can
avail loans facilities from the sponsoring banks against the unit certificates.

Low transaction costs: The cost of purchase and sale of mutual fund units is relatively less. The brokerage fee or trading
commission etc. are lower.

Reduce risk: There is only a minimum risk attached to the principal amount and return for the investments made in
mutual funds. This is due to expert supervision, diversification and liquidity of units.

Professional management: Mutual funds are managed by professionals. They are well trained. They have adequate
experience in the field of investment. Thus investors get quality services from the mutual funds. An individual investor
would never get such a service from the securities market.
Offer tax benefits: Mutual funds offer tax benefits to investors. For instance, under section 80 L of the Income Tax Act,
a sum of Rs. 10,000 received as dividend from a mutual fund (in case of UTI, it is Rs. 13,000) is deductible from the
gross total income.

Support capital market: The savings of the people are directed towards investments in capital markets through mutual
funds. They also provide a valuable liquidity to the capital market. In this way, the mutual funds make the capital market
active and stable.

Promote industrial development: The economic development of any nation depends upon its industrial advancement
and agricultural development. Industrial units raise funds from capital markets through the issue of shares and
debentures.
Credit Card and Debit Card
Credit Card
A credit card is a piece of plastic or metal issued by a bank or financial services company, that allows cardholders to
borrow funds with which to pay for goods and services with merchants that accept cards for payment. Credit cards impose
the condition that cardholders pay back the borrowed money, plus any applicable interest, as well as any additional agreed-
upon charges, either in full by the billing date or over time. An example of a credit card is the Chase Sapphire. As per RBI
guidelines for credit card operations the credit card can be issued by banking and non banking financial institutions

In addition to the standard credit line, the credit card issuer may also grant a separate cash line of credit (LOC) to
cardholders, enabling them to borrow money in the form of cash advances that can be accessed through bank tellers,
ATMs or credit card convenience checks. Such cash advances typically have different terms, such as no grace period and
higher interest rates, compared to those transactions that access the main credit line. Issuers customarily pre-set borrowing
limits, based on an individual's credit rating. A vast majority of businesses let the customer make purchases with credit
cards, which remain one of today's most popular payment methodologies for buying consumer goods and services. In
terms of credit card stolen card is hot card

Debit Card:
It is the card which can be used for withdrawing cash for making payment if there is balance in the account
A debit card is a payment card that deducts money directly from a consumer’s checking account to pay for a purchase.
Debit cards eliminate the need to carry cash or physical checks to make purchases directly from your savings. In addition,
debit cards, also called “check cards,” offer the convenience of credit cards and many of the same consumer protections
when issued by major payment processors such as Visa or Mastercard.
Unlike credit cards, debit cards do not allow the user to go into debt, except perhaps for small negative balances that might
be incurred if the account holder has signed up for overdraft protection. Debit cards usually have daily purchase limits,
meaning it may not be possible to make an especially large purchase with a debit card.