Professional Documents
Culture Documents
It comprises a set of
complex and closely interconnected financial institutions, services, markets, instruments , practices, and transactions
Functions of the Financial system
To link the savers & investors.
To inspire the operators to monitor the performance of the investment.
To achieve optimum allocation of risk bearing.
It makes available price - related information.
It helps in promoting the process of financial deepening and broadening
Financial assets/instruments
Enable channelising funds from surplus units to deficit units
There are instruments for savers such as deposits, equities, mutual fund units, etc.
There are instruments for borrowers such as loans, overdrafts, etc.
Like businesses, governments too raise funds through issuing of bonds, Treasury bills, etc.
Instruments like PPF, KVP, etc. are available to savers who wish to lend money to the government
Financial Institutions
Includes institutions and mechanisms which
Affect generation of savings by the community
Mobilisation of savings
Effective distribution of savings
Institutions are banks, insurance companies, mutual funds- promote/mobilise savings
Individual investors, industrial and trading companies- borrowers
Financial Markets
Money Market- for short-term funds (less than a year)
Organised (Banks)
Unorganised (money lenders, chit funds, etc.)
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Non- Organized - Money lenders Local bankers Traders Landlords Pawn brokers Chit Funds
Components of the Financial System
Financial Institutions/ Intermediaries
Financial Markets
Financial Instruments
Financial Services
Financial intermediaries
Come in between the ultimate borrowers and ultimate lenders
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provide key financial services such as merchant banking, leasing, credit rating, factoring etc.
Services provided by them are: Convenience( maturity and divisibility), Lower Risk(diversification), Expert Management and
Economies of Scale.
Depending upon the nature and type of service provided, they are categorised into:
Asset finance companies
Housing finance companies
Venture capital funds
Merchant banking organisations
Credit rating agencies
Factoring and forfaiting organisations
Housing finance companies
Stock brokering firms
Depositories
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Mutual funds
A mutual fund is a company that pools money from many investors and invests in well diversified portfolio of sound investment.
issues securities (units) to the investors (unit holders) in accordance with the quantum of money invested by them.
profit shared by the investors in proportion to their investments.
set up in the form of trust and has a sponsor, trustee, asset management company and custodian
advantages in terms of convenience, lower risk, expert management and reduced transaction cost.
Insurance organizations
They invest the savings of their policy holders in exchange promise them a specified sum at a later stage or upon the happening of
a certain event.
Provide the combination of savings and protection
Through the contractual payment of premium creates the desire in people to save.
Financial Market
It is a place where funds from surplus units are transferred to deficit units.
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Money market
A market for dealing in monetary assets of short term nature, less than one year.
enables raising up of short term funds for meeting temporary shortage of fund and obligations and temporary deployment of
excess fund.
Major participant are: RBI and Commercial Banks
Major objectives:
equilibrium mechanism for evening out short term surpluses and deficits
focal point for influencing liquidity in economy
access to users of short term funds at reasonable cost
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Capital market
A market for long term funds
focus on financing of fixed investments
main participants are mutual funds, insurance organizations, foreign institutional investors, corporate and individuals.
two segments: Primary market and secondary market
Secondary
Distinct Features
Marketable
Tradable
Tailor-made
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Financial Instruments
Primary Securities: Equity, Preference, Debt and Various combinations.
Secondary Securities: Mutual Fund Units and Insurance Policies etc.
Financial Services
Major Categories
Funds intermediation
Payments mechanism
Provision of liquidity
Risk management
Financial engineering
Financial Services
Depositories
Custodial
Credit Rating
Leasing
Portfolio Management
Underwriting etc
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Financial Market
Any marketplace where buyers and sellers participate in the trade of financial securities, commodities, and other fungible items of
value at low transaction costs and at prices that reflect supply and demand. Securities include stocks and bonds, and commodities
include precious metals or agricultural goods.
There are both general markets (where many commodities are traded) and specialized markets (where only one commodity is
traded).
In finance, financial markets facilitate:
The raising of capital (in the capital markets)
The transfer of risk (in the derivatives markets)
Price discovery
Global transactions with integration of financial markets
The transfer of liquidity (in the money markets)
International trade (in the currency markets)
Securities
Typically a borrower issues a receipt to the lender promising to pay back the capital. These receipts are securities which may be
freely bought or sold. In return for lending money to the borrower, the lender will expect some compensation in the form of
interest or dividends. This return on investment is a necessary part of markets to ensure that funds are supplied to them.
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Capital Market
Capital market is a market for financial assets which have a long or indefinite maturity. Unlike money market instruments the
capital market instruments become mature for the period above one year.
The capital markets may also be divided into primary markets and secondary markets. Newly formed (issued) securities are bought
or sold in primary markets, such as during initial public offerings. Secondary markets allow investors to buy and sell existing
securities. The transactions in primary markets exist between issuers and investors, while in secondary market transactions exist
among investors
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These institutions play the role of lenders in the capital market. Business units and corporate are the borrowers in the capital
market.
Instrument of Capital Market
STOCKS
The market in which shares are issued and traded either through exchanges or over-the-counter markets. Also known as the equity
market.
BONDS
The environment in which the issuance and trading of debt securities occurs. The bond market primarily includes governmentissued securities and corporate debt securities
DEBENTURES A certificate issued by a corporation with the purpose of creating a debt. Debentures are generally unsecured by
assets and are interest bearing securities.
TREASURY BILLS
A short-term obligation that is not interest-bearing (it is purchased at a discount); can be traded on a discount basis for 91 days
FOREIGN EXCHANGE
The market in which participants are able to buy, sell, exchange and speculate on currencies.
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FIXED DEPOSITS
FDs are the deposits that are repayable on fixed maturity date along with the principal and agreed interest rate for the period.
Role Of Capital Market
1. Mobilization of Savings : Capital market is an important source for mobilizing idle savings from the economy. It mobilizes
funds from people for further investments in the productive channels of an economy.
2. Capital Formation : Capital market helps in capital formation. Capital formation is net addition to the existing stock of capital in
the economy.
3. Provision of Investment Avenue : Capital market raises resources for longer periods of time. Thus it provides an investment
avenue for people who wish to invest resources for a long period of time.
4. Speed up Economic Growth and Development : Capital market enhances production and productivity in the national economy
by generation of employment and development of infrastructure.
5. Service Provision : As an important financial set up capital market provides various types of services. It includes long term and
medium term loans to industry, underwriting services, consultancy services, export finance, etc. These services help the
manufacturing sector in a large spectrum.
CAPITAL MARKET
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The market where investment instruments like bonds, equities and mortgages are traded is known as the capital market.
The primal role of this market is to make investment from investors who have surplus funds to the ones who are running a
deficit
The capital market offers both long term and overnight funds.
The different types of financial instruments that are traded in the capital markets are:
> equity instruments
> credit market instruments,
> insurance instruments,
> foreign exchange instruments,
> hybrid instruments and
> derivative instruments.
Importance of Capital Markets
Help firms and governments raise cash by selling securities
Allow investors with excess funds to invest and earn a return
Channel funds from savers to borrowers
Allocate resources optimally (i.e., provide funds to those who can make the best use of them)
Help allocate cash to where it is most productive
Help lower the cost of exchange
Secondary markets, where investors trade existing securities, assures investors that they can quickly sell their securities if the
need arises
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Global Investments
Sale of Government Securities
Primary Market Participants
Marker Risk
When a listed company proposes to issue securities to its existing shareholders, whose names appear in the register of members on
record date, in the proportion to their existing holding, through an offer document, such issues are called Right Issue. This mode
of raising capital is the best suited when the dilution of controlling interest is not intended.
Private placement
It involves sale of securities to a limited number of sophisticated investors such as financial institutions, mutual funds, venture
capital funds, banks, and so on.
It refers to sale of equity or equity related instruments of an unlisted company or sale of debentures of a listed or unlisted
company.
Preferential Issue
An issue of equity by a listed company to selected investors at a price which may or may not be related to the prevailing market
price is referred to as preferential allotment in the Indian capital market.
In India preferential allotment is given mainly to promoters or friendly investors to ward off the threat of takeover.
E-IPO
The companies are now allowed to issue capital to the public through the on-line system of the stock exchanges. For making such
on-line issues, the companies should comply with the provisions contained in Chapter 11A of SEBI( Disclosure and Investor
Protection) Guidelines, 2000.
Pricing of Issues
The companies eligible to make public issue can freely price their equity shares or any security convertible at a later date into
equity shares as per SEBI guidelines 2000.
The issuer can fix-up issue price in consultation of with merchant banker, subject to giving disclosures of the parameters which
have considered while deciding the issue price.
Fixed Price Process
The price which has been fixed by the company for its securities before issue is brought to the market.
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The price at which the securities are offered/allotted is known in advance to the investor.
Demand for the securities offered is known only after the closure of the issue.
Payment is made at the time of subscription whereas refund is given after allotment.
Book-Building/Price Band
It is a process used for marketing a public offer of equity shares of a company.
Book building is a process wherein the issue price of a security is determined by the demand and supply forces in the capital
market
The Price at which securities will be allotted is not known in advance to the investor. Only an indicative price range is known.
(Also called price band and it should not be more than 20% of the floor price).
BOOK BUILDING PROCESS
In this the issuer company mentions the Price Band, which contains Minimum (FLOOR) and Maximum (CAP) prices at which
it will sell (issue) its shares.
The spread between the floor & cap of the price band shall not be more than 20%.
Thus the offer document (or Red Herring Prospectus) contains only the price band instead of the price at which its shares are
offered to the public.
Within this price band the investor can choose the price at which the investor are willing to buy the shares and also the quantity.
As this process is similar to bidding in an auction, the application form for book built issue is also known as the bid form.
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At times the issuer may revise the price band (revision of price band) which has to be accompanied with news paper
advertisement.
Bids by various investors are entered into the stock exchange system through the brokers (also called syndicate member)
terminal. The list of the bid received from investors at various price bands is known as the book (Open Book/Closed Book) and
can be seen in the website(s) of the stock exchange for each investor category.
Based on the total demand in the book, the cut off price is then decided by the issuer and merchant banker.
LEAD MANAGERS: A Merchant Banker possessing a valid SEBI registration in accordance with the SEBI(Merchant Bankers)
Regulations, 1992 is eligible to act as a Book Running Lead Manager to an issue.
SAFETY NET: It refers to a scheme of buy-back arrangements of the shares proposed in any public issue with the objective of
protecting the investors in the event of share prices go down after the issue is made.
e-IPO: A company proposing to issue capital to public through the online system of the S.E. for offer of securities, known as eIPO.
LOCK-IN: The term indicate a freeze on shares. SEBI guidelines have stipulated lock-in requirements on shares of promoters
mainly to ensure that the promoters or main persons who are controlling the company, shall continue to hold some minimum
percentage in the company after the public issue.
PROMOTERS: This has been defined as a person who are in overall control of the company. Promoter Group includes the
promoter, an immediate relative of the promoter( i.e. spouse, parent, brother, sister, child).
DIFFERENTIAL PRICING: Pricing of an issue where one category is offered, shares at a different price from the other
category.
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Institutional investors like venture funds, private equity funds etc., invest in unlisted company when it is very small or at an early
stage. Subsequently, when the company becomes large, these investors sell their shares to the public, through issue of offer
document and the companys shares are listed in stock exchange. This is called as Offer For Sale.
IPO grading: It is the professional assessment of a Credit Rating Agency (CRAs) on the fundamentals of a company in relation
to the other listed equity shares in India.
An IPO grade is NOT a suggestion or recommendation as to whether an investor should subscribe to the IPO or not. IPO grade
needs to be read together with the disclosures made in the offer document including the risk factors as well as the price at which
the shares are being offered.
Examples:IPO grade 1: Poor fundamentals
IPO grade 2: Below average fundamentals
IPO grade 3: Average fundamentals
IPO grade 4: Above average fundamentals
IPO grade 5: Strong fundamentals
Credit rating: It is an opinion of a Credit Rating Agency (CRA) on the likelihood of timely payment of interest and principal
(credit risk) on the rated debt instrument.
It is an unbiased, objective, and independent assessment of the issuer's capacity to meet its financial obligations and is conveyed
with alphanumeric symbols.
SEBI has issued ICDR (Issue of Capital and Disclosure Requirements) Regulations with a view to protect the interest of
investors. These regulations provides for disclosure of material information including risk factors to enable the investors to take an
informed investment decision.
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UNDERWRITING
A marketing strategy corporate enterprises are able to sell their securities to the public
Agreement between the issuing company & the financial intermediary, whereby sale of certain quantum of securities is
guaranteed for the issuing company.
Underwriting Types
Firm Underwriting: Underwriter agrees to take up a specified number of securities
Sub-Underwriting: Underwriting of securities is contracted out by the main underwriter to other underwriting intermediaries for
a commission.
Joint Underwriting: Securities underwritten by two or more underwriting intermediaries jointly.
Private Agencies: M/s Dalal and Co., M/s Kothari & Co. etc
Investment Companies: Industrial Investment Trust of Bombay, Devkaran Nanji Investment Co. and Investment Trust of India
Ltd.
Commercial Banks
DFIs: LIC, IFCI, ICICI, IDBI, UTI etc.
Underwriter
Factors to be taken into consideration while selecting underwriter:
Financial Strength
Experience in primary Market
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No underwriting commission is payable on the amount taken up by promoters, employees, directors and their friends & Business
associates.
Commission is to be paid within 15 days of finalization of allotment
In case of equity shares, 2.5% commission on the amount devolving on underwriter & amount subscribed by the public.
In respect of preference, Convertible & Non-Convertible Debentures
a)
Underwriting upto Rs.5lakh, 2.5% comm. on the amount devolved by the underwriter & 1.5% on the amount subscribed
by the public.
b)
c)
Different between primary market and secondary market
Primary market
d)
In primary markets, securities are bought by way of public issue directly from the company.
e)
New issue are available in primary market.
f)
The primary is a middlemen.
g)
New issue of common stock;bonds and preferred stock are sold by companies.
h)
Secondary market
In Secondary market share are traded between two investors.
i)
j)
k)
Secondary Market
The secondary market is that market in which the buying and selling of the previously issued securities is done.
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The transactions of the secondary market are generally done through the medium of stock exchange.
The chief purpose of the secondary market is to create liquidity in securities.
If an individual has bought some security and he now wants to sell it, he can do so through the medium of stock exchange to sell
or purchase through the medium of stock exchange requires the services of the broker presently, their are 24 stock exchange in
India.
Features of Secondary Market
It Creates Liquidity
It Comes After Primary Market
It Has A Particular Place
It Encourage New Investments
Aids in financing the industry
Ensures safe & fair Dealing( MEDIA BROADCASTING)
Functions of Secondary Markets
Provides regular information about the value of security.
Helps to observe prices of bonds and their interest rates.
Offers to investors liquidity for their assets.
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