DALY COLLEGE OF BUSINESS MANAGEMENT, INDORE

NOTES
SUBJECT: FINANCIAL MARKET AND FINANCIAL SERVICES

Unit II:
Financial Markets: Money market: functions, organization, and instruments. Role of the
central bank in the money market; Indian money market - An overview
Capital Markets: functions, organization, and instruments. Indian debt market; Indian
equity market - primary and secondary markets; Role of stock exchanges in India.

The Financial Market in India

The Financial Market in India can be understood as a place where financial products
and services are bought and sold on a regular basis. It deals in the purchase and sale of
different types of investments, financial services, loans, etc. Financial market in India can be
divided into the money market and the capital market.

• Financial market implies any marketplace where the trading of securities takes
place.
• There can be several kinds of financial markets including (but not limited to) forex,
bond markets, stock, money, etc.
• Financial markets may include securities or assets that are either listed on
regulated exchanges or over-the-counter (OTC).
• The economic development of the country is based on the financial markets. If the
markets fail, it can result in recession and unemployment as well.

Financial Market in India – Meaning & Overview

Just like any other market, the financial market also involves trading, that is, buying
and selling of nothing but financial products and services. Subsequently, the financial
markets basically deal with the sale and purchase of several types of investments, financial
services, loans, etc. The demand and supply of financial instruments is dynamic as the
financial instruments determine their prices.

Financial markets bridge the gap between borrowers and lenders. They bring
together individuals that have surplus funds and those who are in need of funds so that
there can be easy transfer of funds between them. The transfer of funds takes place
through various kinds of financial instruments operating in the financial markets.

Structure of Financial Market in India

The financial market in India can be broadly divided into two main components, that
is, the money market and the capital market. Wherein, the capital market is further divided
into primary and secondary markets. Let’s understand more about the structure of the
financial market in India.
Money Market
The money market acts as a marketplace for short-term borrowing and lending. At the
wholesale level, it involves large-volume transactions between traders and institutions. At
the retail level, the money market involves mutual funds bought by individual investors and
accounts opened by bank customers.
The assets traded in the money market are risk-free and highly liquid. As the maturity period
is less, the risk of volatility is low and the returns are low as well.
Common examples of instruments traded in the money market are treasury bills,
commercial papers, certificates of deposits, bankers’ acceptance, etc.

Capital Market
As opposed to the money market, capital markets deal in long-term securities. The
securities that have a maturity period of more than a year are traded in the capital market.
Subsequently, the market trades in both debt as well as equity-oriented securities.
Participants of the capital market include Foreign Institutional Investors (FIIs), financial
institutions, NRIs, individuals, and so on. The capital market is further divided into Primary
Market and Secondary Market.
 Other types of Financial Markets in India
Now that we have become aware of the main components and the structure of financial
markets in India, let us also have a look at its other types. The other types of financial
market in India include Commodity Market, Derivatives Market, OTC (Over-the-Counter)
Market, Foreign Exchange Market, Bond Market, and Banking Market. Below are detailed:
Other types of Meaning
financial markets
Commodity Market It deals in trading of commodities like pulses, gold, metals, silver, oil, grains, etc.
Derivatives Market A marketplace where futures and options are traded
OTC Market Deals with companies that are generally small and can be traded cheaply without
any regulations.
Foreign Exchange It deals in trading of currencies of different countries.
Market It is considered as the most liquid financial market as currencies can be sold and
purchased easily.
The fluctuating rate of currencies benefit the traders who are eager to derive
profits by selling at a higher rate and buying at a lower one.
Bond Market It facilitates trading of government and corporate bonds that are offered by the
companies and the government to raise capital.
These bonds are debt instruments having a fixed rate of return.
They also have a specific tenure, thus the bond market lacks liquidity.
Banking Market It consists of banks and non-banking financial entities that provide various kinds of
banking services including collection of deposits, offering loans, and so on.

Functions of Financial Markets

In this section, we shall learn about the various services offered by the financial markets in
India.
1. Facilitating Capital Formation:
This function involves enabling businesses to raise capital for various purposes, such
as expansion, research, and development. In India, the primary example is the stock
market, where companies issue shares to the public in Initial Public Offerings (IPOs)
or subsequent offerings.
• Example: A tech startup in India can go public by listing its shares on the
National Stock Exchange (NSE). By doing so, it can raise capital from
investors, which can be used to fund product development and market
expansion.
2. Efficient Resource Allocation:
Financial markets play a crucial role in efficiently allocating funds from savers to
borrowers. In India, the bond market is a prime example, where both government
and corporate bonds are issued to raise funds for various projects.
• Example: The Indian government issues Sovereign Bonds to fund
infrastructure projects. Investors, including individuals and institutions,
purchase these bonds, allowing the government to finance its development
initiatives.
3. Price Discovery:
 Price discovery is essential for determining fair market prices for various assets. In
India, commodity futures markets serve this purpose by establishing prices for
agricultural and industrial commodities.
• Example: Farmers can use commodity futures prices on the Multi Commodity
Exchange (MCX) to decide when to sell their crops, ensuring they receive fair
market prices.
4. Liquidity Provision:
The money market in India provides short-term funds to financial institutions,
ensuring that they have adequate liquidity to meet their obligations and operational
needs.
• Example: Banks in India borrow short-term funds from the money market to
maintain liquidity and provide loans to customers.
5. Risk Management:
Financial derivatives markets in India, such as Nifty Futures and Options on the
National Stock Exchange (NSE), allow investors to hedge against price fluctuations in
stocks and indices, reducing their exposure to risk.
• Example: An investor holding a portfolio of Indian stocks can use Nifty
options to protect against potential market downturns.
6. Wealth Creation and Investment:
Financial markets provide opportunities for individuals to invest their savings and
participate in wealth creation. In India, mutual funds managed by Asset
Management Companies (AMCs) serve this purpose.
• Example: An individual in India can invest in a mutual fund managed by HDFC
Asset Management Company, which then invests in a diversified portfolio of
stocks and bonds.
7. Market Transparency and Fairness:
Indian stock exchanges like the BSE and NSE have strict listing and disclosure
requirements for companies. This ensures that investors have access to accurate and
timely information about the companies they invest in, promoting transparency and
fairness.
• Example: Listed companies in India are required to publish their financial
results regularly, allowing investors to make informed decisions.
8. Regulating Market Activities:
Regulatory authorities like the Securities and Exchange Board of India (SEBI) oversee
and regulate financial markets in India. SEBI's role is to protect investors, maintain
market integrity, and ensure fair market practices.
• Example: SEBI enforces regulations to prevent insider trading and market
manipulation, thereby safeguarding the interests of investors.
9. Promoting Innovation and Efficiency:
FinTech companies in India have introduced innovative financial services and
technologies that have increased the efficiency of financial transactions and
expanded financial access to a broader population.
• Example: Payment banks like Paytm Payments Bank in India offer digital
banking services, making it easier for people to perform transactions and
access financial services using their smartphones.
10. Foreign Investment Attraction:
 India's financial markets attract foreign investors, who participate in the stock and
bond markets, bringing in foreign capital. This investment contributes to economic
growth and development.
• Example: Foreign Institutional Investors (FIIs) invest in Indian stocks and
bonds, providing capital that can be used for economic development projects
in India.

Money Market

Definition:

The Indian money market is a segment of the financial market where short-term
borrowing and lending of funds occur among various participants, primarily dealing with
monetary assets having a maturity of up to one year. It is an integral part of the Indian
financial system and plays a vital role in maintaining liquidity and stability within the
economy.

According to J M Culbertson in his book "Money and Banking" has defined money
market as "A network of market that are grouped together because they deal in financial
instruments that have similar function in the economy are substituted from the point of
view of holder. The instrument of money market are liquid assets, that matures within a
short period of time or callable on demand"

According to Geffrey Crowther in his book "an outline of money" has stated "money
market is the collective name given to the various forms and institutions that deal with the
various grades of near money."

Indian Money Market

The Indian money market is a monetary system in which short-term funds and
securities are borrowed and lend. Indian money market has attained growth just after the
globalization initiative in 1992. As per the RBI definition, "Indian money market is a market
which deals in short term financial assets that are close substitute for money. It facilitates
the exchange of money in primary and secondary market."

The money market in India is for the short-term funds with maturity ranging from
overnight to one year in India including financial instruments that are deemed to be close
substitutes of money. Similar to developed economies, the Indian money market is
diversified and has evolved through many stages, from the conventional platform of
treasury bills and call money to commercial paper, certificates of deposit, repos, forward
rate agreements and most recently interest rate swaps.

According to RBI, money market means, "the center for dealings mainly of a short-
term character, in monetary assets, and it meets the short-term requirements of borrowers
and provides liquidity or cash to lenders." The lenders of money are RBI, commercial banks,
cooperative banks, financial institutions such as LIC, UTI, GIC, foreign exchange banks,
Indigenous bankers and moneylenders. The borrowers of money are the central
government, state government, local bodies, traders, merchants, business men, exporters,
importers, companies, trader's banker themselves, and also the Public.

Features of Indian Money Market

Every form of money is unique in nature. The money market in developed and developing
countries differ markedly from each other in many senses. Indian money market is not an
exception for this. Though it is not a developed money market. It is a leading money market
among the developing countries.

The Indian money market has the following major features or characteristics:

1. Dichotomy structure: It is a significant aspect of the Indian money market. It has a

simultaneous existence of both the organised money market as well as unorganised money
markets. The organized money markets consist of RBI, all scheduled commercial banks and
other recognized financial institutions. However, the unorganised part of the money market
comprises domestic moneylenders, indigenous bankers, traders, etc. The organised money
market is in full control of RBI. However, unorganised money market remains outside the
RBI control.

2. Seasonality: The demand for money in Indian money market is of a seasonal nature. India
being an agriculture predominant economy, the demand for money is generated from
agricultural operations.

3. Multiplicity of interest rates: In Indian money market, we have many levels of interest
rates. They differ from bank to bank, from period to period and even from borrower to
borrower.

4. Lack of organized bill market: In the Indian money market, the organized bill market is
not prevalent. Though RBI tried to introduce the Bill market scheme (1952) and then the
new Bill market scheme in 1970, still there is no properly organized bill market in India.

5. Absence of integration: This is a very important feature of the Indian money market. At
the same time, it is divided among several segments or sections which are loosely
connected with each other.

6. High volatility in call money market: The call money market is a market for very short
term money. Here money is demanded at the call rate. Basically, the demand for call money
comes from commercial banks. Institutions such as GIC, LIC etc. suffer huge fluctuations and
thus it has remained highly volatile.

7. Limited instruments: It is in fact a defect of the Indian money market. In our money
market the supply of various instruments such as the treasury bills, commercial bills,
certificate of deposits etc. is very limited.

Organizational structure of Indian Money Market

Organized and Unorganized Money Market
In India, the money market can be broadly categorized into two segments: the organized
money market and the unorganized money market. Let's explore the organizational
structure of both of these segments:

Organized Money Market:

1. Reserve Bank of India (RBI):

• As the central bank of India, the RBI plays a central role in regulating and
overseeing the organized money market.
• It formulates and implements monetary policy, setting key policy rates like
the repo rate and reverse repo rate that influence the short-term interest
rates in the money market.
• The RBI conducts open market operations (OMOs) to manage liquidity in the
money market.
2. Scheduled Commercial Banks:
• Scheduled commercial banks are significant participants in the organized
money market.
• They actively engage in various money market instruments, including call
money, Treasury Bills (T-Bills), and certificates of deposit (CDs).
• Commercial banks use the money market for short-term borrowing and
lending, liquidity management, and meeting statutory requirements like the
Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR).
3. Cooperative Banks:
• Cooperative banks also participate in the organized money market, primarily
in the call money market.
• They engage in interbank lending and borrowing activities to manage their
short-term liquidity.
4. Non-Banking Financial Companies (NBFCs):
• NBFCs raise funds in the organized money market through instruments like
Commercial Paper (CP) and Certificates of Deposit (CDs).
• They use the money market for short-term financing and liquidity
management.
5. Mutual Funds:
• Mutual funds pool money from individual and institutional investors.
• They invest in money market instruments, such as T-Bills, CPs, and CDs,
offering investors opportunities for short-term investment with potentially
higher returns than traditional savings accounts.
6. Primary Dealers (PDs):
• Primary Dealers are financial institutions authorized by the RBI to participate
in government securities auctions, including Treasury Bills.
• They act as intermediaries between the government and the market,
facilitating the sale of government securities.
7. Clearing Corporations and Settlement Institutions:
• These entities ensure the smooth settlement of money market transactions,
reducing counterparty risk.
 • They provide clearing and settlement services for various money market
instruments.

Unorganized Money Market:

The unorganized money market in India includes informal and non-regulated channels for
short-term lending and borrowing. This segment is less transparent and operates outside
the purview of regulatory authorities like the RBI. Some components of the unorganized
money market include:

1. Moneylenders:
• Informal moneylenders play a significant role in rural areas and among
individuals who may not have access to formal banking channels.
• They lend money at often high-interest rates, making it an expensive source
of credit.
2. Indigenous Bankers:
• Indigenous or traditional bankers operate primarily in local areas, providing
credit to businesses and individuals.
• They offer informal financial services but are subject to fewer regulations.
3. Pawnbrokers:
• Pawnbrokers accept personal assets as collateral for short-term loans.
• Borrowers can retrieve their assets by repaying the principal and interest.
4. Chit Funds:
• Chit funds are informal savings and borrowing schemes common in India.
• Members pool money into a common fund, and one member receives the
entire fund through an auction process.

The Main Functions of the Indian Money Market

The Indian money market serves several crucial functions within the country's financial system and the
broader economy. Its primary functions include:

1. Liquidity Management:
• The money market facilitates the efficient management of short-term liquidity needs for
various participants, including commercial banks, financial institutions, and the
government.
• Participants can borrow or lend funds for short durations, allowing them to balance their
daily cash flow requirements.
2. Short-Term Borrowing and Lending:
• It provides a platform for short-term borrowing and lending of funds, with maturity
periods typically ranging from one day to one year.
• Short-term financing needs of businesses, banks, and financial institutions are met
through instruments like Treasury Bills (T-Bills), Commercial Paper (CP), Certificates of
Deposit (CDs), and call money.
3. Interest Rate Determination:
• The money market plays a pivotal role in determining short-term interest rates in the
economy.
• Key policy rates set by the Reserve Bank of India (RBI), such as the repo rate and reverse
repo rate, are influenced by money market conditions.
 4. Government Financing:
• The Indian government uses the money market to raise short-term funds for its fiscal
needs.
• Treasury Bills (T-Bills) are issued to manage temporary imbalances in government
revenues and expenditures.
5. Bank Liquidity Requirements:
• Commercial banks maintain a portion of their deposits in liquid assets to meet
regulatory requirements like the Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio
(SLR).
• Money market instruments, such as T-Bills and government securities, help banks meet
these statutory liquidity requirements.
6. Investment Opportunities:
• The money market offers investment opportunities to individuals and institutional
investors seeking low-risk, short-term options.
• Mutual funds, which invest in money market instruments, provide individuals with
access to these investment opportunities.
7. Risk Management:
• Corporations and financial institutions use the money market to manage short-term
risks associated with fluctuations in interest rates and currency exchange rates.
• Derivative instruments, such as interest rate swaps and forward rate agreements, are
used for risk mitigation.
8. Price Discovery:
• The money market helps establish fair market prices for short-term financial instruments
and commodities, aiding producers, consumers, and investors in making informed
decisions.
• For example, commodity futures markets facilitate price discovery for agricultural and
industrial commodities.
9. Monetary Policy Implementation:
• The Reserve Bank of India (RBI) utilizes the money market as a key tool for implementing
monetary policy.
• It conducts open market operations (OMOs) by buying or selling government securities
in the money market to manage liquidity and influence interest rates.
10. Regulation and Oversight:
• Regulatory bodies like the RBI and the Securities and Exchange Board of India (SEBI)
oversee and regulate different segments of the money market.
• Regulatory oversight ensures market integrity, transparency, and the protection of
investors' interests.
11. Foreign Investment Attraction:
• The Indian money market attracts foreign institutional investors (FIIs) who participate in
various money market instruments.
• Foreign investments contribute to capital inflows and economic growth in India.

The different instruments of the money market

The Indian money market offers various instruments that serve as short-term debt securities or financial
products for borrowing, lending, and managing liquidity. Here are different instruments of the money
market, each explained with real examples:

1. Treasury Bills (T-Bills):

• Definition: Treasury Bills are short-term government securities with maturities typically
ranging from 91 days, 182 days, and 364 days. They are issued by the central
government and are considered one of the safest forms of investment.
Treasury bills are classified in two ways:
 Ordinary treasury bills it is issued to Public and other financial institutions to meet the
short-term requirement of the government. Adhock treasury bills are sold through
tender or aviation.

On the basis of periodicity, treasury bills are issued in three types:

(i) 1 day's treasury bills,
(ii) 182 days' treasury bills, and
(iii) 364 days' treasury bills.
91-day Treasury bill did not prove successful for meeting the requirement because of
low interest rate of below 5%. This brought 182 days Treasury bill to develop short term
market. It is preferred for mating SLR and CRR requirements in banks. It offers high yield
and also provide liquidity and safety. The 364 days' treasury bills introduced in 1992.
• Participation: T-Bills are actively traded in the money market by a wide range of
participants, including banks, mutual funds, insurance companies, and individual
investors.
• Example: In India, the Government of India regularly issues Treasury Bills through
auctions. For instance, the government may issue a 91-day T-Bill with a face value of
₹100 at an auction. Investors bid for these T-Bills, and the lowest accepted bid
determines the yield.
• Example: State Bank of India (SBI), one of India's largest banks, may invest a portion of its
surplus funds in 182-day T-Bills to earn a secure return on its excess liquidity.

2. Certificates of Deposit (CDs):

Definition: Certificates of Deposit are time deposits issued by commercial banks,
financial institutions, and select NBFCs for fixed tenures at a predetermined interest
rate. They are issued in dematerialized form and are tradable in the secondary market.
To raise large sum of money for short term period, this instrument is issued by banks
and financial institutions. Certificate of deposit is negotiable and is marketable, having
specific value and maturity with grace period.
CD's are subscribed to individuals, corporations, trust, associations and NRI's. The banks
is USA introduced CDs in 1960 which was freely negotiable and marketable before
maturity. On the recommendation of the Saghul committee, the RBI introduced CD's in
1989 as attractive instruments both to the banker and the investor.
The main objective was to widen the money market instruments range and to provide
investors greater pliability and extend short term surplus fund.
RBI has framed guidelines for issue of CDs:
a) CD could be issued in the multiple of 5 lakhs with a minimum size to a single investor
being 25 lakhs,
(b) Maturity period ranging from 3 months to 1 year.
(c) Banks are required to maintain CRR and SLR on the issue price of CDs.
(d) In 1993, six financial institutions, viz., IDBI, ICICI, IFCI, IRBI, SIDBI and EXIM were
permitted to issue CDs with maturity period of more than one year and up to three
years.
• Participation: Commercial banks, foreign banks operating in India, and a few select
financial institutions are eligible to issue CDs. Other banks, mutual funds, corporations,
and individuals can invest in CDs.

• Example: A bank like HDFC Bank may issue a 6-month CD with a face value of ₹1,00,000,
offering an annual interest rate of 4.5%. Investors can purchase these CDs, which will
mature in six months with the principal and interest paid at maturity.

3. Commercial Paper (CP):

 • Definition: Commercial Paper is an unsecured promissory note issued by corporations
and financial institutions to raise short-term funds from investors. It has fixed maturity
and interest rates, making it a popular instrument for working capital needs. It is an
unsecured promissory note, issued by Private companies, Public units, non- banking
companies etc., for a fixed maturity.
• It can be issued directly by the company to the investor or through banks. It is issued to
Individuals, banks, Corporates and NRI's. Usually private corporate companies, and
banks participate in the CP market.
• The guidelines of RBI an issue of CP are:
(a) A company can issue CP only of it has:
1. A tangible net worth of not less than 10 crores as per the latest balance sheet
2. A minimum current ratio of 1.33:1
3. A fund based working capital limit of 25 crores or more
4. A debt servicing ratio closer to 2
5. The Company is listed on stock exchange
6. The issuing company would need to obtain P1 from CRISIL
(b) CP shall be issued in multiples of 25 lakhs but the minimum amount to be invested by a single
investor shall be 71 crore.
(c) Minimum maturity period of 7 days and maximum period of 6 months.
(d) It is issued in the form of usance Promissory notes, negotiable by endorsement and delivery.
The discount rate has to be specified by the issuing company and the issuing company has to
bear all floating cost, including stamp duty, dealer's fee and fees of credit rating agency also.
(e) Any person or banks or corporate bodies registered or incorporated in India and
unincorporated bodies registered or incorporated in India and unincorporated bodies too can
invest in CP. On non-repatriation basis non-resident Indians can also invest in CP.
• Participation: CPs are predominantly issued by corporations, non-banking financial
companies (NBFCs), and financial institutions. Banks, mutual funds, and other investors
participate in the secondary market for CPs.
• Example: Reliance Industries, a conglomerate in India, may issue CPs to finance its short-
term operational needs, while mutual funds like Aditya Birla Sun Life Mutual Fund may
purchase these CPs as part of their investment portfolio.
• Example: Infosys, an Indian IT company, may issue a 90-day CP with a face value of
₹10,00,000 at an annual interest rate of 5%. Investors purchase these CPs, and Infosys
pays the face value plus interest upon maturity.

4. Call Money:
Definition: Call Money refers to short-term loans and borrowing among
banks and financial institutions, usually for a day. These transactions help
institutions manage their daily liquidity needs. It is short term loan market.
The main lenders of the fund in the call money market are SBI, LIC, GIC, UTI,
IDBI, NABARD and other financial intuitions and the main borrowers are the
scheduled commercial banks. It is also called as Inter-bank call money
market.
• Participation: Call money transactions primarily involve commercial banks,
cooperative banks, and primary dealers. They use the call money market to
manage daily liquidity requirements.

• Example: ICICI Bank may borrow funds from State Bank of India in the call
money market to bridge a temporary shortfall in its cash reserves.
 • Example: HDFC Bank might borrow ₹50 crores from State Bank of India (SBI) in the call
money market for one day to meet unexpected short-term funding requirements. The
interest rate for such transactions varies daily based on market conditions.

5. Notice Money:
• Definition: Notice Money is similar to call money but involves borrowing and lending for
periods exceeding one day, typically up to 14 days. Participants
• Participation: Notice money transactions also involve commercial banks, cooperative
banks, and primary dealers. They provide a longer-term borrowing and lending option
compared to call money.
• Example: Axis Bank may lend notice money to HDFC Bank for seven days, with the
provision that Axis Bank can recall the funds by giving one day's notice.
• Example: ICICI Bank may lend ₹75 crores to Axis Bank in the notice money market for
seven days, with the provision that ICICI can recall the funds by providing a notice of one
day.

6. Commercial Bills:
• Definition: Commercial Bills, also known as trade bills or bills of exchange, are short-
term negotiable instruments used in trade transactions. They represent a promise by
one party to pay a specific amount to another party at a future date. It is a promise to
pay the fixed specified amount in the specific period by the purchaser of the goods to
the seller
• According to Section 5 of the Negotiable Instruments Act bill of exchange means, "An
instrument in writing containing an unconditional order, signed by the maker, directing a
certain person to pay a certain sum of money only to, or to the order of a certain person
or to the bearer of the instrument."
• When the goods are sold on credit, the seller writes the bill on the buyer, the buyer
accepts the bill by signing it to make the payment of the amount due after the specified
period. The maturity of bill ranges from 3 months to 6months as maximum.
• The bill market scheme was launched by RBI in 1952 to provide finance against bills of
exchange and promissory notes. But due to popularity of Cash Credit scheme of banks,
bill market was not able to develop.
• On the recommendations of the Narshimham Committee, the RBI introduced the new
scheme of bill in 1970. Under this scheme, the Commercial banks are eligible to
rediscount the bills; other financial institutions were included in the scheme such as LIC,
GIC, UTI, ISBI, ICICI, IFCI, ECGC, NABARD, EXIM etc. The major obstacle in this scheme
was cash credit system of credit delivery as well as absence of sedentary market.
• Participation: Commercial bills are commonly used in trade finance and
involve various parties, including businesses, banks, and financial institutions.
These bills facilitate trade credit.
• Example: A textile manufacturer may issue a commercial bill to its supplier,
who can discount it at a bank like Punjab National Bank (PNB) to receive
immediate payment.
• Example: A manufacturer might issue a commercial bill to a supplier, promising to pay
₹10,00,000 within 90 days. The supplier can then sell this bill to a bank at a discount to
obtain immediate funds.

These money market instruments provide various avenues for short-term borrowing,
lending, and investment, catering to the liquidity needs of both financial institutions and
corporations. Investors can choose from these instruments based on their risk tolerance and
investment horizon, and issuers can access short-term funds to meet working capital
requirements.

Financial institutions, including banks, mutual funds, and insurance companies, play vital
roles in the Indian money market. They use these instruments to manage liquidity, generate
returns on their surplus funds, and meet regulatory requirements. Conversely, corporations
and non-banking financial companies (NBFCs) issue these instruments to raise short-term
funds to finance their operations and working capital needs. The money market acts as an
intermediary, facilitating the efficient allocation of short-term funds among these
participants, and contributing to the overall stability of the financial system.

The problems with the Indian money market

1. Lack of Depth:
Example: The Indian money market primarily consists of short-term debt instruments like
Treasury Bills and Commercial Papers. In contrast, developed markets like the United States
have a wider range of instruments, including long-term bonds, which provide more options
for investors and borrowers.

2. Lack of Diversification:
Example: Banks dominate the Indian money market, with a few large players having
significant market share. This concentration can lead to systemic risks, as any issues faced
by these dominant institutions can impact the entire market.

3. Lack of Liquidity in Some Segments:

Example: During times of financial stress, the commercial paper market in India may
experience reduced liquidity, making it difficult for companies to roll over their short-term
debt, as seen during the liquidity crisis in the Indian financial markets in 2008.

4. Regulatory Constraints:
Example: Stringent capital adequacy and provisioning norms for banks can limit their
participation in certain money market activities, restricting market growth and flexibility.

5. Limited Investor Base:

Example: Most retail investors in India prefer traditional bank fixed deposits due to
perceived safety, rather than participating in more dynamic money market instruments.
Expanding the investor base through education and simplified access could help diversify
the market.

6. Lack of Transparency:
Example: The lack of real-time, publicly available data on money market transactions can
lead to information asymmetry and hinder smaller investors from making informed
decisions.

7. Interest Rate Volatility:

 Example: Sharp fluctuations in short-term interest rates, driven by monetary policy
changes or global economic events, can affect the cost of borrowing for businesses and
impact their financial planning.

8. Counterparty Risk:
Example: When Infrastructure Leasing & Financial Services (IL&FS) faced a liquidity crisis in
2018, it had repercussions on the broader Indian money market due to concerns about
counterparty risk.

9. Lack of Integration:
Example: The separation of the money market from the bond market can limit the
effectiveness of monetary policy transmission, as changes in short-term rates may not have
the desired impact on longer-term rates.

10. Inadequate Infrastructure:

Example: Delayed settlement or payment system glitches can disrupt money market
operations and increase operational risks for market participants.

11. Regulatory Arbitrage:

Example: Companies may exploit regulatory gaps by engaging in practices like
'evergreening' of loans (renewing loans to avoid recognizing bad debts) to make their
financial health appear better than it is, which can distort the true risk profile of the market.

Regulators of the Financial Markets

While learning about the financial markets in India, it is also very important to
understand about its regulators. The regulators of financial markets in India have a special
status as far as the Indian economy is concerned. Hence, candidates preparing for
various banking and finance exams must have knowledge about the financial market
regulators as well.
These regulators operate in the financial market so that the participants of the market abide
by the laws and regulations of trading. Subsequently, the regulators ensure that there is fair
trade in the market and that the investors’ interest is protected.
The prominent regulators of financial institutions in India are as follows:

• Reserve Bank of India (RBI)

• Securities & Exchange Board of India (SEBI)
• Insurance Regulatory & Development Authority of India (IRDA)

Reserve Bank of India (RBI)

The RBI acts as chief and most prominent regulatory authority for the banks and non-
banking financial institutions.
It is also considered as the central bank of India, which is responsible for formulating
monetary policies, foreign exchange policies, credit policies, etc.
All the banks and non-banking financial institutions in India are required to follow the rules
and guidelines set by the Reserve Bank of India in order to stay operational in the market.
The Reserve Bank of India (RBI) regulates the Indian money market through a combination
of policies, guidelines, and direct interventions to ensure its stability, efficiency, and
integrity. Here are some of the key regulatory measures and tools used by the RBI to
regulate the Indian money market:

1. **Monetary Policy:**
- The RBI formulates and implements monetary policy through tools like the repo rate,
reverse repo rate, and the cash reserve ratio (CRR). These policy rates directly influence
short-term interest rates in the money market.
- By adjusting these rates, RBI controls the availability of money in the market and aims to
achieve its monetary policy objectives, such as controlling inflation and promoting economic
growth.

2. **Open Market Operations (OMOs):**

- RBI conducts OMOs by buying or selling government securities in the money market.
When RBI buys securities, it injects liquidity into the market, and when it sells securities, it
absorbs liquidity.
- OMOs are used to manage short-term liquidity conditions and influence interest rates.

3. **Statutory Liquidity Ratio (SLR):**

- RBI mandates that banks maintain a certain percentage of their net demand and time
liabilities (NDTL) in the form of government securities, gold, or other approved assets. This is
known as the SLR.
- The SLR acts as a liquidity reserve requirement and indirectly affects the availability of
funds in the money market.

4. **Regulatory Guidelines:**
- RBI issues detailed regulations, guidelines, and instructions for various money market
instruments, including Treasury Bills, Commercial Papers (CPs), and Certificates of Deposit
(CDs).
- These guidelines specify the eligibility criteria, issuance procedures, and reporting
requirements for market participants.

5. **Surveillance and Supervision:**

- RBI monitors the activities of banks, financial institutions, and other market participants
in the money market to ensure compliance with regulatory norms.
- It conducts inspections and audits to assess the financial health and risk management
practices of these entities.

6. **Lender of Last Resort (LOLR):**

- As the LOLR, RBI provides emergency financial support to solvent but illiquid financial
institutions during times of crisis. This helps prevent systemic collapses and ensures the
stability of the money market.

7. **Development of New Instruments:**

 - RBI encourages the development of new money market instruments to diversify the
market and enhance its efficiency. It introduces instruments like repo agreements, currency
swaps, and interest rate futures to meet evolving market needs.

8. **Market Surveillance and Data Collection:**

- RBI collects data on money market operations, including transaction volumes, interest
rates, and market participant positions. This data is used for analysis and policymaking.
- Surveillance helps RBI identify irregularities and take corrective actions when necessary.

9. **Regular Communication:**
- RBI maintains regular communication with market participants, providing guidance,
clarifications, and updates on regulatory requirements and policy changes.

10. **Periodic Reviews and Reforms:**

- RBI periodically reviews and reforms money market regulations to adapt to changing
market conditions, enhance transparency, and improve risk management practices.

In summary, the RBI regulates the Indian money market by using a combination of monetary
policy tools, liquidity management operations, regulatory guidelines, surveillance, and direct
interventions. Its overarching goal is to ensure the stability and efficiency of the money
market while aligning it with broader monetary policy objectives.

Securities & Exchange Board of India (SEBI)

The SEBI is the prime regulator of the capital market. That means, it is also responsible for
regulating both the primary as well as secondary capital market.
All the trading and transactions taking place in the capital market is governed and regulated
by the rules and regulations laid down by the Securities & Exchange Board of India.

Insurance Regulatory & Development Authority (IRDA)

The IRDA acts as the chief governor of the insurance companies and their intermediaries.
The Insurance Regulatory & Development Authority is entrusted with the responsibility of
regulating the insurance market comprising both life insurance market as well as the general
insurance market in India.

Role of the Money Market in the Development of Indian Economy

The money market plays a crucial role in the development of the Indian economy by facilitating the
efficient allocation of short-term funds, ensuring liquidity, and supporting various economic
activities. Here are some key roles and contributions of the money market to the Indian economy:

1. **Liquidity Management:** The money market provides a platform for financial institutions,
banks, and corporations to manage their short-term liquidity needs. By offering instruments like
Treasury Bills, Commercial Papers (CPs), and Certificates of Deposit (CDs), it allows entities to park
surplus funds or raise short-term capital as required. This helps maintain liquidity in the financial
system, preventing disruptions due to liquidity shortages.

2. **Funding for Businesses:** Corporations can access short-term funds through the issuance of
Commercial Papers (CPs) in the money market. This provides businesses with a cost-effective way to
meet working capital requirements, finance inventory, and fund expansion projects.
3. **Government Financing:** The Indian government uses the money market to raise funds
through the issuance of Treasury Bills. These bills serve as a vital source of short-term financing for
the government to meet its expenditure needs and manage fiscal deficits.

4. **Monetary Policy Transmission:** The money market serves as a channel for the transmission
of monetary policy. The Reserve Bank of India (RBI) uses tools like the repo rate and reverse repo
rate to influence short-term interest rates in the money market. Changes in these rates impact the
cost of borrowing and lending, which, in turn, affect overall economic conditions, including
investment and consumption.

5. **Risk Management:** Market participants use derivatives and money market instruments to
manage interest rate risk and liquidity risk. This helps financial institutions and corporations optimize
their balance sheets and protect themselves from adverse market movements.

6. **Investment Opportunities:** The money market provides investment opportunities to

individuals, financial institutions, and mutual funds looking for relatively low-risk, short-term
investments. Treasury Bills and other money market instruments are popular choices for investors
seeking safety and liquidity.

7. **Market Efficiency:** An active and efficient money market ensures that funds flow to where
they are needed most efficiently. This efficient allocation of capital helps improve overall economic
productivity and growth.

8. **Reduction of Transaction Costs:** By providing a centralized platform for short-term

borrowing and lending, the money market reduces transaction costs for market participants. This
encourages financial institutions to channel funds more effectively, ultimately benefiting the broader
economy.

9. **Development of Financial Infrastructure:** The money market necessitates the development

of financial infrastructure, including payment and settlement systems, trading platforms, and
regulatory frameworks. This infrastructure benefits not only the money market but also the broader
financial sector.

10. **Stability and Risk Mitigation:** Through its role as a lender of last resort and as a regulator,
the Reserve Bank of India (RBI) helps maintain stability in the money market. This ensures that
systemic risks are minimized, and market participants have confidence in the stability of the financial
system.

In conclusion, the money market in India plays a multifaceted role in supporting economic
development by providing liquidity, financing options, risk management tools, and a mechanism for
implementing monetary policy. It contributes to the overall health and stability of the Indian
economy by efficiently channeling short-term funds to where they are needed most.
 Capital Markets:
functions, organization, and instruments. Indian debt market; Indian equity market -
primary and secondary markets; Role of stock exchanges in India.

Capital Market can be defined as a financial market for the creation and exchange of financial assets. The
financial markets exist wherever a financial transaction occurs. Financial transactions could be in the form
of creation of financial assets to the likes of initial issue of shares and debentures by a business or the
purchase and sale of existing financial assets like bonds, debentures, and equity shares.

o The Financial Market is subdivided into Capital Market and Money Market.
o The capital market is further divided into Primary and Secondary Market, which comprise of
Equity and Debt.
o The capital market is a market dealing in medium and long term funds such as borrowings from
banks and financial institutions, borrowings from overseas markets, and raising capital by issue
of various securities such as bonds, shares, and debentures.

Capital Market – Overview

Capital Markets are the ones wherein savings and investments are traded between suppliers who have
capital and those who need that capital. Retail and institutional investors are the entities that have the
capital while those who seek the capital are individuals, businesses, and the government.

Capital Markets intend to improve the transactional efficiencies. These are the markets that bring
together those who hold the capital and those who seek the capital to provide a proper place where they
can exchange the securities.

Examples of Capital Market include the stock market, bond market, and currency and foreign exchange
markets.

features of the Indian secondary capital market in more detail:

1. Stock Exchanges:
• BSE and NSE: The Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE)
are the two primary stock exchanges in India. They provide the platform for trading a
wide range of securities, including equities, bonds, and derivatives.
2. Regulatory Framework:
• SEBI: The Securities and Exchange Board of India (SEBI) is the regulatory body overseeing
the secondary market. SEBI regulates various market participants, ensures fair practices,
and works to protect the interests of investors.
3. Market Participants:
• Retail and Institutional Investors: Retail investors, including individual traders, and
institutional investors, such as mutual funds, insurance companies, and pension funds,
actively participate in the secondary market.
• Foreign Institutional Investors (FIIs): Foreign investors can invest in the Indian
secondary market, subject to regulatory guidelines.
4. Liquidity:
• Market Liquidity: The secondary market offers high liquidity, allowing investors to buy
or sell securities easily. This liquidity is facilitated by the continuous trading activities on
stock exchanges.
 5. Market Indices:
• Sensex and Nifty: The BSE Sensex and NSE Nifty are prominent market indices that track
the performance of the stock market by considering the stock prices of a basket of top
companies listed on the respective exchanges.
6. Market Surveillance and Compliance:
• SEBI Surveillance: SEBI, along with stock exchanges, employs surveillance mechanisms
to monitor market activities. This includes identifying irregular trading patterns, ensuring
compliance with regulations, and taking corrective actions when necessary.
7. Dematerialization:
• Electronic Trading: The Indian secondary market has shifted to a fully electronic format,
with dematerialization being a key feature. Securities are held and traded in electronic
form through demat accounts, reducing the risks associated with physical certificates.
8. Trading Mechanisms:
• Regular Trading Session: The primary trading session involves continuous buying and
selling throughout the trading day.
• Futures and Options (F&O): Derivative instruments, such as futures and options, allow
investors to hedge risks and speculate on the future price movements of securities.
• Call Auction Mechanism: This mechanism is used for determining the opening price of
securities and is particularly important for stocks with lower liquidity.
9. Market Instruments:
• Equities, Bonds, and Derivatives: Investors can trade a variety of financial instruments,
including stocks (equities), bonds, and derivatives like futures and options. This diversity
allows investors to build well-balanced portfolios.
10. Market Volatility:
• External Factors: The Indian secondary market can experience volatility due to external
factors such as economic indicators, corporate earnings reports, global geopolitical
events, and changes in interest rates.

Understanding these features provides investors with insights into the functioning of the Indian
secondary capital market. Investors should stay informed about market developments, regulatory
changes, and global economic trends to make informed investment decisions and manage risks
effectively.

Capital Market Vs Money Market

Capital Market Points of Money Market
Differences
It is in which long-term debt or equity-backed Meaning It refers to trading in very short-term debt
securities are traded. investment.
Shares, bonds, government securities Instruments Treasury bills, commercial papers, certificate
of deposits, bills of exchange
Stock brokers, underwriters, mutual funds, financial Participants Commercial banks, non-banking finance
institutions, individual investors companies, chit funds, etc.
They are formal in nature Nature of They are informal in nature
Market
They are comparatively less liquid Market Liquidity They are highly liquid
They are riskier than money market Risk Involved They have minimum risks
They take longer to attain maturity Duration of They are matured within a year
Maturity
Helps achieve long term credit requirements of Purpose Helps achieve short term credit requirements
businesses of businesses
There is a high ROI involved Return on Comparatively lesser ROI is involved
 Investment

Regulators of Capital Market

o The Capital Markets in India are regulated and monitored by the Ministry of Finance. Therefore,
both the major regulators, that is, the Securities and Exchange Board of India (SEBI) and the
Reserve Bank of India (RBI) are responsible for regulating the capital market.
o The Ministry of Finance regulates the capital market through the Department of Economic Affairs
– Capital Markets Division
o The division is responsible for the following:
o Institutional reforms in the securities markets
o Building regulatory and market institutions
o Strengthening the investor protection mechanism
o Providing an efficient legislative framework for securities markets

Structure of Capital Market

The Capital Market is divided into:

PRIMARY MARKET
The primary market is also known as new issue market. As in this market securities are sold for the
first time i.e. new securities are issued from the company. Primary market companies goes directly
to investor and utilizes these funds for investment in building, plants and machinery etc. The primary
market does not includes finance in the form of loan from financial institution because when loan is
issued from financial institutions it implies converting private capital into public capital and this
process is called as going public.
The common securities issued in primary market are equity shares, debentures, bonds, preference
shares and other innovative securities.

Methods of floatation of securities in primary market:

• Public issue through prospectus: Under this method company issue a prospectus to inform
and attract general public
• Offer for sale: Under this method new securities are offered to general public but not
directly by the company but by an intermediary who buys whole lot of securities from the
company.
• Private placement: Under this method the securities are sold by the company to an
intermediary at fixed price and in second step intermediaries sell these securities not to
general public but selected clients at higher price.
• Right issue (for existing companies): This is the issue of new shares to existing shareholders.
It is called right issue because it is the pre- emptive right of shareholder that company must
offer them the new issue before subscribing to outsiders.
• e- IPO (electronic initial public offer): it is the new method of issuing securities through on
line system of stock exchange. In this company has to appoint registered brokers for the
purpose of accepting application and placing orders.

SECONDARY MARKET (STOCK EXCAHNGE)

The secondary market is the market for the sale and purchase of previously issued or second hand
securities. In secondary market securities are not directly issued by the company to investors. The
securities are sold by existing investors to other investors.
In secondary market companies get on additional capital as securities are bought and sold between
investors only so directly there is no capital formation but secondary market indirectly contributes in
capital formation by providing liquidity to securities of the company.

STOCK EXCHANGE – Definition:

The Securities Contract and Regulation Act defines a stock exchange as “An organisation or body of
individuals, whether incorporated or established for the purpose of assisting, regulating and
controlling of business in buying, selling and dealing in securities.” Every stock exchange has a
specific location. In India there are 24 recognized stock exchanges.

TYPE OF OPERATION IN STOCK EXCHANGE

Brokers: A broker is a member of stock exchange. He buys and sells securities on behalf of outsiders
who are not the members. He charges brokerage or commission for his services.
Jobbers: A jobber is a member of stock exchange. He buys and sells securities on his own behalf. He
is specialized in one type of security and he makes profits by selling the securities at a higher price.
Bulls: A bull is a speculator who expect rise in price. He buys securities with a view to selling them in
future at a higher price and making profit out of it.
Bears: A bear is a speculator who expects fall in price. He sells securities which he does not possess.
Stag: A stag is also a speculator who applies for new securities in expectation that price will rise by
the time of allotment and he can sell them at premium.

Functions of Stock Exchange / Secondary Market

• Economic Barometer: It is a reliable barometer to measure the economic condition of the
country. The rise or fall in the share prices indicates the boom or recession cycle of the
economy.
• Pricing of Securities: The stock market helps to value the securities on the basis of demand
and supply factors.
• Safety of Transactions: In stock market only the listed securities are traded and stock
exchange authorities include the companies names in the trade list only after verifying the
soundness of company.
• Contributes to Economic Growth: In stock exchange securities of various companies are
bought and sold. This process of disinvestment and reinvestment helps to invest in most
productive investment proposal and this leads to capital
• Spreading of Equity Cult: Stock exchange encourages people to invest in ownership
securities by regulating new issues, better trading practices and educating public about
investment.
• Providing Scope for Speculation: To ensure liquidity and demand of supply of securities the
stock exchange permit healthy speculation of securities.
• Liquidity: The main function of stock market is to provide ready market for sale and
purchase of securities. The investors can invest in long term investment projects without any
hesitation, as because of stock exchange they can convert long term investment into short
term and medium term.
• Better allocation of capital: Promotes the habits of savings and investment.

Primary Markets (New Issues) Secondary Markets (Stock Exchange)

Sale of securities by new firms or further (new issues of Trading of existing shares only.
securities by existing companies to investors).
Securities sold by the company to the investor directly. Ownership of existing securities is exchanged between
investors, without any involvement by the firms.
Flow of funds is from savers to investors, i.e. the primary It enhances liquidity of shares, i.e. the capital formation is
market directly promotes capital formation. indirectly promoted by the secondary market.
Only buying of securities takes place in the primary Both the buying and the selling of securities takes place on
market, securities cannot be sold. the stock exchange
Prices are decided by the management of the company. Prices are determined on the basis of demand and supply
for the security.
There is no fixed geographical location. Located at specific places only.

Participants
The capital market comprises two entities, the one who supplies the capital and the other who seeks
capital. Generally, the entities with the surplus capital are retail and institutional investors. Whereas, the
entities seeking capital are individuals, government, and businesses.

Examples of capital suppliers:

o Pension Funds
o Life insurance companies
o Non-financial companies
o Charitable funds

Examples of capital seekers:

o Individuals looking to purchase homes, vehicles, etc.

o Government
o Non-financial companies

Need
The key reasons why the capital market is essential for the Indian economy:

1. Capital Mobilization:
• The capital market serves as a platform for companies and the government to raise long-
term capital. This is crucial for funding large-scale projects, infrastructure development,
and other capital-intensive initiatives. Companies can issue stocks and bonds to raise
equity and debt capital, respectively.
2. Corporate Growth and Expansion:
• For businesses, especially those in the growth phase, access to the capital market is vital.
Through the issuance of securities, companies can raise funds for expansion, research
and development, acquisitions, and other strategic initiatives. This helps fuel economic
growth and contributes to increased employment opportunities.
3. Investor Participation and Wealth Creation:
• The capital market encourages widespread participation from various types of investors,
including retail investors, institutional investors, and foreign investors. As companies
perform well and their stock prices appreciate, investors can earn capital gains, leading
to wealth creation. This, in turn, enhances consumer confidence and spending.
4. Efficient Resource Allocation:
• The capital market plays a role in efficiently allocating financial resources. Investors
direct their funds to companies with strong growth prospects and sound business
models. This process ensures that capital is channeled to entities that can utilize it
effectively, contributing to overall economic efficiency.
5. Entrepreneurship and Innovation:
 • Entrepreneurs and innovative startups often rely on the capital market to raise funds for
their ventures. Access to capital allows these entities to invest in research and
development, create new products or services, and contribute to technological
advancements. This fosters a culture of entrepreneurship and innovation within the
economy.
6. Job Creation:
• As companies grow and expand, they require additional manpower, leading to job
creation. The capital market, by providing funds for expansion, indirectly contributes to
reducing unemployment and improving the standard of living for the population.
7. Secondary Market Liquidity:
• The secondary market, where existing securities are traded, provides liquidity to
investors. This liquidity ensures that investors can buy or sell securities easily,
contributing to the overall stability of the financial system and allowing investors to
manage their portfolios effectively.
8. Government Financing:
• Governments can raise funds through the issuance of bonds in the capital market. This is
particularly important for financing public projects, such as infrastructure development,
healthcare, and education. Government participation in the capital market helps
diversify funding sources and promotes fiscal stability.
9. Economic Stability:
• The capital market contributes to economic stability by providing a mechanism for
efficient risk management. Investors can diversify their portfolios, and the pricing of
financial instruments reflects market expectations and information, contributing to a
more stable economic environment.
10. Global Competitiveness:
• A well-developed capital market enhances a country's global competitiveness. It attracts
foreign investors, fosters economic growth, and allows domestic companies to access
international capital. This integration into the global financial system positions the
country favorably in the global marketplace.

In summary, the capital market is an integral part of the economic landscape, facilitating the flow of
capital, supporting growth and innovation, creating employment opportunities, and contributing to
overall economic stability and competitiveness. Its proper functioning is crucial for the sustained
development of the Indian economy.

The capital market is a minor yet very important part of the modern economy. It enables the movement
of money from the entities that have the money to the entities that require money for productive use.

Capital Markets – Functions

Following are some of the prime functions or responsibilities undertaken by the capital markets in India:

o Bringing together those requiring capital and those who possess capital in excess.
o Aims to achieve better transactional efficiency
o Helps in economic growth
o Ensures continuous availability of funds
o Ensures the movement and efficient utilization of capital, resulting in increased national income
o Minimizes transaction and information costs
o Offers insurance against market risks

Advantages of Capital Market

The capital market provides the following advantages for both capital suppliers and capital seekers:

o Money movement between individuals who need capital and who possess the capital
o Increased efficiency in the transactions
o Securities like shares help in earning dividend income
o Growth in the value of investment increases in the long run
o Interest rates provided by bonds and securities are higher than the banks’ interest rates
o Investors can avail tax benefits by investing in stock markets
o Securities of capital markets can be used as a collateral for availing loans from banks.

CAPITAL MARKET INSTRUMENT

The corporate securities that are dealt in primary market can classified under
two categories:
1. Ownership securities or capital stock.
2. Creditorship securities or debt capital

Initial Public Offering (IPO)

The Initial Public Offering (IPO) process is where a previously unlisted company sells new or existing
securities and offers it to the public for the first time. More details about the IPO is provided below:

o It is the process by which a private company can go public by sale of its stocks to the general
public.
o It could be a new, young company, or an old firm that decides to be listed on an exchange and
hence goes public.
o Companies can raise equity capital with the help of an IPO by the issue of new shares to the
public or the existing shareholders can sell their shares to the public. They need not raise any
fresh capital.
o A company offering its shares to the public is not obliged to repay the capital to the public
investors.
o The company which offers its shares is known as an ‘issuer’. It does so with the help of
investment banking institutions.
o After the IPO, the company’s shares are traded in an open market.
o Those shares can be further sold by the investors by way of secondary market trading.

Stock Exchange
 o A stock exchange is a firm which provides a platform to buy and sell existing securities.
o As a market, the stock exchange helps the exchange of a security in the form of shares and
debentures into money and vice versa.
o As per the Securities Contracts (Regulation) Act 1956, the stock exchange means anybody of
individuals, whether incorporated or not, constituted for the purpose of assisting, regulating, or
controlling the business of buying and selling or dealing in securities.

National Stock Exchange (NSE)

o It is the latest, most modern, and technology-driven exchange

o Incorporated in 1992 and recognized as a stock exchange in April 1993
o The NSE started its operations in 1994 with trading on the wholesale debt market segment
o It has set up a nationwide fully automated screen-based trading system
o According to the World Federation of Exchanges (WFE), the NSE is the leading stock exchange in
India and the second largest in the world by number of trades in equity shares from January to
June 2018

Bombay Stock Exchange (BSE)

o The Bombay Stock Exchange Ltd. was set up in 1875 as Asia’s first stock exchange
o Under the Securities Contract (Regulation) Act, 1956, the BSE was granted permanent
recognition
o It has contributed to the growth of the corporate sector by providing a platform for raising
capital
o The BSE was previously established as the Native Share Stock Brokers Association in 1875
o It became the first listed stock exchange of India in 2017
o The BSE launched India INX, the 1st international exchange of India, located at GIFT City IFSC,
Ahmedabad
o About 5000 companies from all over the country and outside are listed on the exchange, making
BSE the largest market capitalization platform in India

Stock Market in India – Facts

o The first stock exchange in India was set up in 1875 in Bombay as the Native Share & Stock
Brokers Association.
o Today it is known as the BSE (Bombay Stock Exchange)
o This was followed by the development of exchanges in Ahmedabad (1894), Calcutta (1908), and
Madras (1937)
o Until the early 1990s, the Indian secondary market comprised regional stock exchanges with BSE
heading the list.
o The Indian secondary market acquired a three tier form after the reforms of 1991, consisting of:
o Regional Stock Exchanges
o National Stock Exchange (NSE)
o Over the Counter Exchange of India (OTCEI)

OWNERSHIP SECURITIES
o Ownership securities, also known as capital stock or shares, are the most common methods used by
corporate, government, and other big companies to raise funds to help finance their operations. Section
2(46) of the companies act 1956 defines it is “a share in the share capital of a company and including
stock except where a distinction between stock and shares is expressed or implied.”

KINDS OF OWNERSHIP SECURITIES OR SHARES

 o EQUITY SHARES: An equity share, normally known as ordinary share is a part
ownership where each member is a fractional owner and initiates the maximum
entrepreneurial liability related with a trading concern. These types of shareholders in
any organization possess the right to vote.
Features of Equity Shares Capital:
o Equity share capital remains with the company.
o It is given back only when the company is closed
o Equity Shareholders possess voting rights and select the company’s management
o The dividend rate on the equity capital relies upon the obtain ability of the surfeit
capital. However, there is no fixed rate of dividend on the equity capital.
Characteristics of Equity Shares
o Maturity
o Claims / right to income
o Claim on assets
o Right to Control or Voting Right
o Pre-emptive Right
o Limited liability
Advantages of Equity Shares Capital
o Equity Shares does not create a sense of obligation and accountability to pay a rate of
dividend that is fixed.
o Equity Shares can be circulated even without establishing any extra charges over the
assets of an enterprise.
o It is a perpetual source of funding and the enterprise has to pay back; exceptional case
– under liquidation.
o Equity shareholders are the authentic owners of the enterprise who possess the voting
rights

PREFERENCE SHARES

o Preference shares are a long-term source of finance for a company. They are neither
completely similar to equity nor equivalent to debt. The law treats them as shares but
they have elements of both equity shares and debt. For this reason, they are also called
‘hybrid financing instruments’. These are also known as preferred stock, preferred
shares, or only preferred in a different part of the world. There are various types of
preference shares used as a source of finance.

Features of preference shares

o Maturity
o Claim on income
o Claim on assets
o Control
o Hybrid from securities
Advantages:
o Appeal to Cautious Investors: Preference shares can be easily sold to investors who
prefer reasonable safety of their capital and want a regular and fixed return on it.
o No Obligation for Dividends: A company is not bound to pay dividend on
preference shares if its profits in a particular year are insufficient. It can postpone the
dividend in case of cumulative preference shares also. No fixed burden is created on
its finances.
o No Interference: Generally, preference shares do not carry voting rights. Therefore, a
company can raise capital without dilution of control. Equity shareholders retain
exclusive control over the company.
o Trading on Equity: The rate of dividend on preference shares is fixed. Therefore,
with the rise in its earnings, the company can provide the benefits of trading on equity
to the equity shareholders.
o No Charge on Assets: Preference shares do not create any mortgage or charge on the
assets of the company. The company can keep its fixed assets free for raising loans in
future.
o Flexibility: A company can issue redeemable preference shares for a fixed period.
The capital can be repaid when it is no longer required in business. There is no danger
of over-capitalisation and the capital structure remains elastic.
 o Variety: Different types of preference shares can be issued depending on the needs of
investors. Participating preference shares or convertible preference shares may be
issued to attract bold and enterprising investors.
Disadvantages:
o Fixed Obligation: Dividend on preference shares has to be paid at a fixed rate and
before any dividend is paid on equity shares. The burden is greater in case of
cumulative preference shares on which accumulated arrears of dividend have to be
paid.
o Limited Appeal: Bold investors do not like preference shares. Cautious and
conservative investors prefer debentures and government securities. In order to attract
sufficient investors, a company may have to offer a higher rate of dividend on
preference shares.
o Low Return: When the earnings of the company are high, fixed dividend on
preference shares becomes unattractive. Preference shareholders generally do not
have the right to participate in the prosperity of the company.
o No Voting Rights: Preference shares generally do not carry voting rights. As a result,
preference shareholders are helpless and have no say in the management and control
of the company.
o Fear of Redemption: The holders of redeemable preference shares might have
contributed finance when the company was badly in need of funds. But the company
may refund their money whenever the money market is favorable. Despite the fact
that they stood by the company in its hour of need, they are shown the door
unceremoniously.

DEFERRED SHARES
o Deferred shares are also called as founder shares because these shares were normally
issued to founders. The shareholders have a preferential right to get dividend before
the preference shares and equity shares. No Public limited company or which is a
subsidiary of a public company can issue deferred shares. These shares are issued to
the founder shares to control over the management by the virtue of their voting rights.
o No Par Share or Stock: According to Indian Companies Act, the shares issued by a
company must have a definite face value. The face value of the share indicates the
extent of interest in and the liability of the shareholder to the company.
o Sweat Equity: Sweat equity is the non-monetary investment that owners or
employees contribute to a business venture. Startups and entrepreneurs often use this
form of capital to fund their businesses by compensating their employees with stock
rather than cash, which also helps
o to align risk and rewards. In real estate, it refers to value-enhancing improvements made by
homeowners to their properties.

CREDITORSHIP SECURITIES DEBENTURE

o Debenture is used to issue the loan by government and companies. The loan is issued at the fixed
interest depending upon the reputation of the companies. When companies need to borrow some money
to expand themselves they take the help of debentures.
Important features of Debentures:
o Debentures are instruments of debt, which means that debenture holders become
creditors of the company. They are a certificate of debt, with the date of redemption
and amount of repayment mentioned on it. This certificate is issued under the
company seal and is known as a Debenture Deed.
o Debentures have a fixed rate of interest, and such interest amount is payable yearly or
half-yearly.
 o Debenture holders do not get any voting rights. This is because they are not
instruments of equity, so debenture holders are not owners of the company, only
creditors. The interest payable to these debenture holders is a charge against the
profits of the company. So these payments have to be made even in case of a loss.
Advantages of Debentures:
o One of the biggest advantages of debentures is that the company can get its required
funds without diluting equity. Since debentures are a form of debt, the equity of the
company remains unchanged.
o Interest to be paid on debentures is a charge against profit for the company. But this
also means it is a tax-deductible expense and is useful while tax planning.
o Debentures encourage long-term planning and funding. And compared to other forms
of lending debentures tend to be cheaper.
o Debenture holders bear very little risk since the loan is secured and the interest is
payable even in the case of a loss to the company.
o At times of inflation, debentures are the preferred instrument to raise funds since they
have a fixed rate of interest.
Disadvantages of Debentures:
o The interest payable to debenture holders is a financial burden for the company. It is
payable even in the event of a loss
o While issuing debentures help a company trade on equity, it also makes it to
dependent on debt. A skewed Debt-Equity Ratio is not good for the financial health
of a company
o Redemption of debentures is a significant cash outflow for the company which can
imbalance its liquidity
o During a depression, when profits are declining, debentures can prove to be very
expensive due to their fixed interest rate

Types of Debentures:
There are various types of debentures that a company can issue.
o Secured Debentures: These are debentures that are secured against an asset/assets of
the company. This means a charge is created on such an asset in case of default in
repayment of such debentures. So in case, the company does not have enough funds to
repay such debentures, the said asset will be sold to pay such a loan. The charge may
be fixed, i.e. against a specific assets/assets or floating, i.e. against all assets of the
firm.
o Unsecured Debentures: These are not secured by any charge against the assets of the
company, neither fixed nor floating. Normally such kinds of debentures are not issued
by companies in India.
o Redeemable Debentures: These debentures are payable at the expiry of their term.
Which means at the end of a specified period they are payable, either in the lump sum
or in installments over a time period. Such debentures can be redeemable at par,
premium or at a discount.
o Irredeemable Debentures: Such debentures are perpetual in nature. There is no fixed
date at which they become payable. They are redeemable when the company goes into
the liquidation process. Or they can be redeemable after an unspecified long time
interval.
o Fully Convertible Debentures: These shares can be converted to equity shares at the
option of the debenture holder. So if he wishes then after a specified time interval all
his shares will be converted to equity shares and he will become a shareholder.
 o Partly Convertible Debentures: Here the holders of such debentures are given the
option to partially convert their debentures to shares. If he opts for the conversion, he
will be both a creditor and a shareholder of the company.
o Non-Convertible Debentures: As the name suggests such debentures do not have an
option to be converted to shares or any kind of equity. These debentures will remain
so till their maturity, no conversion will take place. These are the most common type
of debentures.

Important Terms in Capital Market

Demat Account

o Demat is a dematerialization account used to hold shares and securities in electronic format.
o It holds all the investments an individual makes in shares, government securities, bonds, and
mutual funds, etc. in one place
o In India, free demat account services are offered by depositories such as NSDL and CDSL through
intermediaries/ depository participant, stock brokers (eg. Angel Broking, ShareKhan, etc.)

ASBA Account

o It means ‘Application Supported by Blocked Account’

o It is an application containing an authorization to block the application money in the bank
account for subscribing to an issue

Mutual Fund

o It is a corporate body registered with SEBI that pools money from individuals/ corporate
investors and invests the same in a variety of different financial instruments or securities.
o Mutual funds can be considered as a financial intermediary in the investment business that
collects funds from the public and invests on behalf of the investors.

Bonds

o It is a normally unsecured negotiable certificate evidencing indebtedness.

o Bonds are generally issued by a company, municipality, or government agency
o A bond investor lends money to the issuer and in exchange the issuer promises to repay the loan
amount on a specified maturity date. Types of bonds include zero coupon bond, convertible
bonds, treasury bills.

Derivatives

o It is a product whose value is derived from the value of one or more basic variables, called
underlying. The underlying asset can be equity, index, foreign exchange (forex), commodity or
any other asset.
o Derivatives can be classified into forwards, futures, and options.

Stock Split

o It is a corporate action which splits the existing shares of a particular face value into smaller
denominations so that the number of shares increases. However, the market capitalization or
the value of shares held by the investors post split remains the same as that before the split.
 HOW SECURITIES AND EXCHANGE BOARD OF INDIA (SEBI)
CONTROLS CAPITAL MARKET OF INDIA?

The Securities and Exchange Board of India (SEBI), was initially constituted on April 12, 1988 as a
non contributory body through a resolution of the government for dealing with all matters related to
development and regulation of securities market and investor protection and to advice the government
on all these matters. SEBI was given statutory status and powers through an ordinance promulgated
on January 30, 1992.
The Securities and Exchange Board of India (SEBI) is the regulatory body for dealing with all matters
related to the development and regulation of securities market in India. SEBI was established on 12th
of April in 1988. SEBI was given statutory powers on 12 April 1992 through the SEBI Act, 1992.
Organisational Structure of SEBI:

SEBI is managed by six members-one chairman (nominated by Central Government), two

members (officers of central ministries), one member (from RBI) and remaining two
members are nominated by Central Government. The office of SEBI is situated at Mumbai
with its regional offices at Kolkata, Delhi and Chennai.
In 1988 the initial capital of SEBI was 7·5 crore which was provided by its promoters (IDBI,
ICICI, IFCI). This amount was invested and with its interest amount day-to-day expenses of
SEBI are met. All statutory powers for regulating Indian capital market are vested with SEBI
itself.

Functions of SEBI
• To safeguard the interests of investors and to regulate capital market with suitable
measures.
• To regulate the business of stock exchanges and other securities market.
• To regulate the working of Stock Brokers, Sub-brokers, Share Transfer Agents,
Trustees, Merchant Bankers, Underwriters, Portfolio Managers etc. and also to make
their registration.
 • To register and regulate collective investment plans of mutual funds.
• To encourage self-regulatory organizations.
• To eliminate malpractices of security markets.
• To train the persons associated with security markets and also to encourage
investors' education.
• To check insider trading of securities.
• To supervise the working of various organizations trading in security market and also
to ensure systematic dealings.
• To promote research and investigations for ensuring the attainment of above
objectives.

Decisions taken by SEBI for Ensuring a Healthy Capital Market:

SEBI has adopted a number of revolutionary steps to re-establish the credit of capital
market, which include the following:
• Control on utilizing ‘application amount’ having no interest by companies
releasing public issues - At the instance of SEBI commercial banks introduced Stock
Investment Scheme under which investor has to submit stock-invests, purchased from
banks, with their share application. If the investor is allotted shares/debentures, the
required amount is transferred in concerned company's account by the bank issuing
'Stock invests'. In other case (if share/debenture is not allotted), investor gets a pre-
determined interest rate on invested capital. This step of SEBI ensured interest
earning to the investor until he got share/ debenture allotment. It also ensures the
refund of invested amount to the investor in case shares are not allotted.
• Share Price and Premium Determination - According to the latest directions of
SEBI, Indian companies are now free to determine their share prices and premium on
those shares. But determined price and premium amount will be equally applicable to
all without any discrimination.
• Underwriters- The minimum asset limit has been fixed to be ~ 20 lakh to work as
underwriter. Besides, SEBI has warned under writers that their registration can be
cancelled if any irregularity is found in the purchase of unsubscribed part of the share'
issue.
• Control on Share Brokers- Under new rules every broker and sub-broker has to
obtain registration with SEBI and any stock exchange in India.
• Insider Trading- Companies and their employees usually adopt malpractices in
Indian capital market to variate share prices. To check this type of insider trading,
SEBI introduced SEBI (Insider Trading) Regulation 1992 which will ensure honesty
in the capital market and will develop a feeling of faith among investors to promote
investments in capital market in the long run.
• SEBl's Control on Mutual Funds- SEBI introduced SEBI (Mutual Funds)
Regulation 1993 to take over direct control of all mutual funds of government and
private sector (excluding UTI). Under this new rule, the company floating a mutual
fund should possess net assets of 5 crore which should consist of at least 40%
contribution from promoter's side.
• Control on Foreign Institutional Investors-SEBI has made it compulsory for every
foreign institutional investor to get registered with SEBI for participating in Indian
capital market. SEBI has issued directives in this regard.