In economics, the financial market is a mechanism that allows individuals and entities to buy and sell financial securities including equities, bonds, currencies, derivatives and commodities and other fungible items of value at low transaction cost and a price that reflects supply and demand. Both general markets like New York Stock Exchange (NYSE) trading many commodities and specialized markets as Forex exchange market trade trillions of dollars on daily basis.
BREAKING DOWN Financial Market
Stock prices traded at the financial market may differ from the true intrinsic value of securities due to such macroeconomic factors as taxation, etc. Moreover, informational transparency of the emitting company has the strongest influence on securities prices.
A financial market which enables investors to buy and sell shares of publicly traded companies is called the stock market. The word ‘stock’ means equity or ownership in a corporation. There are two types of stock market: primary market, where the companies issue shares to the general public through initial public offering and secondary markets, where existing securities are bought and sold by investors depending on news and fundamentals of the companies which are listed. Capital markets are very liquid and complex in comparison to other financial markets.
The Over-the-Counter market (OTC) is a decentralized market, without a central physical location, where market participants trade with one another through various communication modes such as the telephone, email and proprietary electronic trading systems. An over-the-counter (OTC) market and an exchange market are the two basic ways of organizing financial markets. In an OTC market, dealers act as market makers by quoting prices at which they will buy and sell a security or currency. A trade can be executed between two participants in an OTC market without others being aware of the price at which the transaction was effected.
The Bond Market is the market for all types of bonds and a place, where organizations go to obtain very large loans. Generally, when stock prices go up, bond prices go down. There are many different types of bonds, including Treasury Bonds, corporate bonds, and municipal bonds. An example of a bond can be a debenture.
Money market refers to those markets where financial instruments which are of short-term maturities are traded. These markets help both companies as well as government to tide over short-term liquidity problem, if one has excess liquidity in the form of cash then one can buy in money market and in times of liquidity crunch one can sell short-term securities which are lying idle with the company or government in money markets. Treasury bills, commercial paper, bankers’ acceptances, deposits, certificates of deposit, bills of exchange are some of the instruments which are traded in the money market.
Derivatives are those financial instruments which derive their value from the value of other assets and hence their value depends on the value of an underlying asset. Derivatives are perhaps the most complex and innovative products and that is the reason why there has been a tremendous surge of interest in derivatives and daily volume of transactions which happen in derivatives markets has crossed trillions of dollars. Forwards, futures, options, swaps are some of the examples of derivatives instruments which are used in the derivatives market.
The foreign exchange market is the largest financial market in the world. The currencies are on a floating exchange rate and are always traded in pairs. Operating virtually round the clock, the Forex market trades enormous amounts of money, estimated at 5.1 trillion U.S. dollars daily. Forex is decentralized, the over-the-counter market where business is conducted through telephones, computers, smartphones etc. Large market players as corporations, commercial banks, money centers, pension funds and investment banking firms participate in Forex trading alongside with experienced individuals and amateur traders.
Various financial markets perform different functions and hence all of them are important for the smooth functioning of the economy and country as a whole.