2. Overview of Financial Markets

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Financial Management I

2. Overview of Financial Markets

Dr. Suresh

[email protected]

Phone: 40434399, 25783850


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Course Content - Syllabus

*Book reference

Sr Title ICMR Ch. PC Ch. IMP Ch.

1 Introduction to Financial Management 1* 1 1

2 Overview of Financial Markets 2* 2 -

3 Sources of Long-Term Finance

4 Raising Long-term Finance

5 Introduction to Risk and Return6 Time Value of Money

7 Valuation of Securities

8 Cost of Capital

9 Basics of Capital ExpenditureDecisions

10 Analysis of Project Cash Flows

11 Risk Analysis and Optimal Capital

Expenditure Decision2 / 21


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Overview of Financial Markets

Reference Books

1. Financial Management, ICMR Book, Chapter 2

2. Financial Management, Prasanna Chandra, 7th

Edition,

Chapter 2


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SyllabusOverview of Financial Markets

1. Financial Markets

2. Functions and Classifications of Financial Markets

3. Money Market

4. Forex Market

5. Government Securities Market

6. Capital Market

7. Derivatives Market

8. International Capital Markets

9. Participants


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Financial System

Financial System is a broader term. It includes various financial

institutions, financial markets, regulations and laws, practices,

analysts, money managers, transactions, claims and liabilities.

Financial Institutions:Commercial BanksInsurance Companies

Mutual FundsProvident Funds

NBFCs

Suppliers of Funds:

IndividualsBusinessesGovernments

Demands of Funds:

IndividualsBusinessesGovernments

Financial Markets:Money MarketCapital Market

Funds

Deposits/Shares Loans

Funds

Funds

Securities

Funds

Securities


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1. Financial Markets

Financial Markets include

Money Market

Forex Market

Government Securities Market

Capital Market

Derivatives Market

International Capital Markets


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2. Functions and Classifications of FinancialMarkets

Functions of Financial Markets

Price Discovery

Liquidity to financial assets

Reduce the transaction costs


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Classifications of Financial Markets

Debt Market

Nature of Claim Equity Market

Money Market Maturity of Claim

Capital Market

Primary Market Seasoning of Claim

Secondary Market

Cash or Spot Market Timing of DeliveryForward or Futures Market

Exchange-traded Market

Organizational Structure Over-the-counter Market


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3. Money Market

Money market is for short-term borrowing and lending.

It provides short-term liquidity to the financial system.

Money Markets are interbank and inter-corporate.

In Money Market, mostly debt instruments are traded

such as Treasury Bills, Commercial Papers, Banks

Acceptance, Certificate of Deposits, Repurchase

Agreements etc.

Money Market include Call Money Market, Treasury

Bills Market, CP & CD Market etc.


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3. Money Market

Central, State and Local Governments issue papers tomeet funding needs.

Money Markets trade in short-term financial

instruments called as paper. It is not like long-term

instruments such as equity and bonds.

Money Market instruments are benchmarked to theLIBOR or MIBOR/MIBID (offer/bid rates).

Arbitrage opportunities exists to buy higher yield long-

term papers, while selling short-term cheaper papers.


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4. Forex Market

Foreign Exchange Market deal in foreign currencies e.g

$, , , etc.

Daily volume is around $4 t. Therefore it has high

liquidity.

NSE started trading in Forex recently.

Participants in Forex market include exporters,

importers, commercial banks, central banks and

brokers.

Forex quotations have two rates: bid and offer rates.


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5. Government Securities Market

This includes bonds and treasury bills issued by the

Central Government, State Government and local self

government like municipal authorities and companies

wholly owned by the government, for the purpose of

raising funds from the public.

These securities are referred as gilt-edged or risk-free

or safest as repayments are totally secured.

Govt. securities are issued for maturities from 91 days to

31 years.

Govt. securities market consists of primary and

secondary markets.

C


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6. Capital Market

BSE and NSE are the capital markets or stock markets

in India. BSE started in 1887 and NSE in 1993. BSE started

electronic trading since 1995.

Capital markets provide resources for industries andbusinesses for long term needs.

It brings together savers, entrepreneurs and outlet for

investment.

It include primary market (IPO and FPO) and

secondary market (buy/sell securities).

SEBI is a regulator.

Issues: Public issue, rights issue, bonus issue.


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Functions of Capital Market

Functions of Primary Markets

1. To bring the savers and users together resulting in

transfer of funds from one to the other

Functions of Secondary Markets

1. Investor should be able to sell his stocks at most

competitive price

2. They should provide liquidity

3. Transaction costs should be minimum for the investor


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Stocks Trading Procedure

Trading and Settlement Procedure of stocks:

1. Place an order with a broker or online

2. Broker communicate the order to stock exchange3. Order stays in a queue and gets executed when it enters

system within buy/sell limit specified

4. You can see number of buyers and sellers

5. Shares bought or sold are recorded in demat accounts

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7 D i i M k


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7. Derivatives Market

Derivatives are the derived products from another

products such as underlying securities or assets.

Price of derivatives depends on underlying, risk and time

value.

Derivatives are: Futures, Forward, Options and Swaps.

Futures and Forward: Obligations.

Options: Right but not obligations.

Futures and options are exchange traded. Forward areOTC.

Functions of derivatives: Hedging, Speculation and

Arbitrage.


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Size of OTC and Exchange-Traded Markets(Figure 1.1, Page 3 of Hull)

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Source: Bank for International Settlements. Chart shows total principal

amounts for OTC market and value of underlying assets for exchange market

OTC

Exchange

Sizeof

Market($trillion)


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American vs. European Options

An American option can be exercised at any time

during its life.

A European option can be exercised only at

maturity.


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Types of Traders in Derivatives

Hedgers

Speculators

Arbitrageurs

Some of the largest trading losses in derivatives have

occurred because individuals who had a mandate to be

hedgers or arbitrageurs switched to being speculators for

example Barings Bank.

8 I t ti l C it l M k t


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8. International Capital Markets

Origin can be traced back to 1960s, when Europeans

wished to invest in dollar-dominated bonds, to hold their

assets overseas for avoiding taxes and protecting

themselves against depreciating domestic currencies.

These markets include GDRs , ADRs and Eurobonds.

Many Indian companies has raised finance overseas such

as Infosys, ICICI Bank, Reliance, L&T etc.

1970s onwards there is substantial growth in ICMs for

raising capital overseas.

9 P ti i t f th Fi i l S t


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9. Participants of the Financial System

They include Financial Institutions: IDBI, IFCI, ICICI, IIBI, Exim

Bank, SFCs, SIDCs

Insurance Companies: LIC, GIC etc.

Investment Institutions: UTI, Mutual Funds,

Commercial Banks, NBFCs, Housing FinanceCompanies, Foreign Institutional Investors

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Documents

2. Overview of Financial Markets