Financial markets, from the name itself, are a form of market that provides a venue for the buying and selling of assets such as bonds, stocks, foreign exchange, and derivatives. It’s also known by several names, such as “Wall Street” and “capital market,” but they all still mean one and the same thing. Simply put, companies and investors can go to the financial markets to raise funds to grow their businesses and earn more money, respectively.
To make it more clear, let’s imagine a bank in which an individual maintains a savings account. The bank may use its money and the money of other depositors to lend to individuals and other organizations and to charge interest. Depositors themselves often earn and see their money increase through the interest paid to it. Thus, the bank serves as a financial market where both depositors and debtors benefit.
Many people think of the stock market when they talk about the capital markets. We do not know that there are other types that achieve different goals. The markets exchange a variety of products to help raise liquidity. Each market depends on each other to create confidence in investors. The interconnectedness of these markets means that when one suffers, other markets will react accordingly.
1. The stock market
The stock market trades in ownership shares of public companies. Every share comes with a price, and investors make money from stocks when they are doing well in the market. It’s easy to buy stocks. The real challenge is choosing the right stocks that will make money for the investor. There are many indices that investors can use to track stock market performance, such as the Dow Jones Industrial Average (DJIA) and the S&P 500. When stocks are bought at a lower price and sold at a higher price, the investor gains from the sale.
2- Capital Market (Bonds)
The capital market is a form of financial market for the trading of stocks (stocks) and bonds. This market is used to lend or borrow money for the long term. Capital markets are divided into primary and secondary markets. Organizations sell shares in the form of stock, preferred stock or fixed-interest bonds in the primary market. If the shares are released, the investors buy into them at a lower price and later sell them to another investor at a higher price to earn profit in the secondary market.
3. Derivatives market
The derivatives market is a type of financial market that deals with the buying and selling of futures contracts, options, forward contracts, and swaps. It can be dealt with either over the counter or in exchange-traded derivatives. Derivatives derive their fee from the underlying asset and are used to manipulate the financial risk due to price change.
4. Commodity market
Commodity market helps in buying and selling commodities like gold, oil, wheat, rice, etc. There are about 50 major commodity markets around the world. There is a definite market for these resources because their price is unpredictable.
5- Foreign Exchange Market (Forex Trading)
The foreign exchange market enables the trading of currencies. These markets operate through financial institutions and decide foreign exchange rates for each currency.
Advantages of financial markets
It provides a platform for companies to raise funds for both the long and short term. Companies will raise capital at a lower value as compared to obtaining a loan from commercial banks at a better interest rate. Also, commercial banks do not lend a large number of loans. Companies have the flexibility to collect capital from the market proportionately from time to time until the authorized capital is exhausted. Financial market intermediaries such as banks and financial institutions offer financial and strategic practices to companies and investors each. They provide data, guidance and skilled services that would not be available otherwise. It provides a platform for trading and dealing with multiple stocks, securities, bonds, derivatives, etc. at a time. Strict rules and regulations within the financial market gain the confidence of every investor and business and facilitate the boosting of the economy. Provide a platform for monetary lending and borrowing between international currencies
Disadvantages of financial markets
Lots of formalities with the help of regulators can make the entire system time consuming. Sometimes companies cannot afford to enter the financial market due to strict policies and regulations. They are unable to set up resources that want to conduct continuous monitoring and compliance check procedures. Investors can lose their money due to unavailability of data or lack of awareness. Companies can grow to be more profitable as opposed to an investor driven company. It is very important that the Board of Directors makes choices considering all stakeholders and avoids the abusive use of investors’ money for their own profit.