Definition of Financial Markets

Financial Market is a marketplace where the creation and the trading of financial assets take place. Financial assets include shares, bonds, derivatives, commodities, currencies, etc. The financial market of any country plays a crucial role in allocating the limited resources available in the economy of any country. Some financial markets are very small, with little activity, while some financial markets trade trillions of securities daily. It acts as an intermediary between savers and investors by mobilizing funds between them. So, the financial market gives buyers and sellers a platform to trade in the assets at the price which is determined by the market forces, i.e., demand and supply in the market.

Types of Financial Markets

There are different types of financial markets, which are as follows:

1. Money Markets

A money market is basically for short-term financial assets that can be turned over rapidly at a minimum cost that instruments are quickly convertible into money with the least transaction costs. The operations in the money market are for a duration that can be extended to one year, and it deals in short-term financial assets. This market is an institutional source of working capital for companies. These market participants are commercial banks, RBI, large Corporations, etc.; the instruments in the money market are commercial bills, commercial paper, certificates of deposit, treasury bills, etc.

2. Over the Counter Markets

This market is decentralized, not a centralized physical location. It is basically the secondary market. Here, the participants of the market trade with each other by using different modes of communication like electronic mode, telephone, etc. companies that are traded in the OTC market are small companies. This market has less transparency, fewer regulations, and is inexpensive.

3. Derivatives Market

The derivatives market is the financial market that trades in securities that derive their value from some specified underlying asset. Derivatives do not have a physical existence but emerge from the contracts between two parties. These underlying assets may be debentures, shares, currencies, etc. The market price of an underlying item determines the derivative contracts’ value. This market trades in derivatives, including futures and forward contracts, swaps, options, etc.

4. Bonds Market

The bond is a debt security where an investor loans the money for a specific period and at an actual coupon rate, i.e., interest rate. These bonds include Corporate Bonds and municipal bonds from all over the world. All kinds of securities, like bills and notes issued through the United States Treasury, are sold in the bond market.

5. Forex Market

The forex market is not a physical entity but a communication network among banks, brokers, and forex dealers. This is the market where all kinds of currencies are traded. It is the highest liquid market as cash is liquid. It includes market dealings like the spot market, forward market, etc.

Example of Financial Markets

For example, Company XYZ Ltd. wants to raise capital of $100,000 by issuing equity in the financial market. The company is giving the shares for the first time to the common public, so it will have to give the shares in the primary share market in case new stock issues are first offered, then they are to be issued in the primary share market. Any subsequent tradings in the stock securities will happen in the secondary market.

Advantages and Disadvantages

Some of the advantages and disadvantages of the financial markets are as follows:

Advantages

It gives a platform for buyers and sellers to meet to trade in the assets. The prices for trading are determined by the market forces, i.e., demand and supply in the market. So It helps in the determination of the costs of securities.
It helps in the mobilization of the savings of the investors as the investor can put his money to the most productive use.
For traders, the financial market platform provides the potential buyer and seller of their securities, which helps them save time and money in finding the potential buyer and seller.
In the financial market, investors can sell their securities readily and convert them into cash, thereby providing liquidity to the tradable assets.

Disadvantages

Prices in the financial market may not indicate a stock’s true intrinsic value because of some macroeconomic forces like taxes etc.
Certain factors change the prices of securities suddenly. So there is a risk involved when trading in the financial market. Like if any negative news about the company comes, then its price may greatly decrease, causing loss to the person holding its shares.

Important Points of Financial Markets

The market, an arrangement, or an institution facilitates the exchange of financial instruments and financial securities.
It may or not have a physical location. The assets can be exchanged between the parties over the phone or the internet.
Some of the financial markets are very small, with the little amount of activity, while some of the financial markets trade trillions of amounts of securities daily.

Conclusion

Thus it can be concluded that the Financial market is the market where the traders are involved in the buying and selling financial assets like shares, bonds, derivatives, commodities, currencies, etc. It is an arrangement or institution that facilitates the exchange of financial instruments and securities. It may or not have a physical location. The assets can be exchanged between the parties over the phone or the internet. Over the last few years, the role of the financial market has seen a drastic change because of several factors, such as low transaction cost, investor protection, high liquidity, pricing information transparency, legal procedures, easiness of settling disputes, etc.

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