Capital Market Instruments in detail

WHAT IS A CAPITAL MARKET ?

Capital markets refer to the places where savings and investments are moved between suppliers of capital and those who are in need of capital.

The capital market is sometimes known as the stock market or stock exchange which refers to the marketplace (or medium) where long term securities having maturity period more than one year are created/ sold by the companies or government and brought by the investors.

Financial instruments that are used for raising capital resources in the capital market are known as Capital Market Instruments.

FUNCTIONS OF CAPITAL MARKET –

  • It acts in linking investors and savers.
  • Facilitates the movement of capital to be used more profitability and productively to boost the national income
  • Boosts economic growth
  • Mobilization of savings to finance long term investment
  • Facilitates trading of securities.

TYPES OF CAPITAL MARKET INSTRUMENTS –

The capital market instruments can be broadly classified into following three categories –

  1. PURE INSTRUMENTS – Equity shares, preference shares, debentures and bonds which are issued with the basic characteristics without mixing the features of other instruments are called pure instruments.
  2. EQUITY SHARES – These are the primary source of finance for a public limited or joint stock company. The equity shareholders have the right to vote & also benefit from the dividends when such organization makes profits.
  3. PREFERENCE SHARES – Preference shares are those shares which have some certain special or priority rights for the investors. They enjoy the benefits of dividend before equity shareholders but do not have any voting rights.
  4. DEBENTURES – Debentures are those debt instruments which are typically issued by the companies in order to raise funds from individuals. It also provides a fixed rate of interest and having a medium maturity period less than bonds. Moreover, there are several types of debentures which provide various additional features from the investors as well as issuers’ point of view.
  5. BONDS – A bond is a written income instrument that represents a loan made by a lender to a borrower person. Bonds can be created by legally by I.O.U. between lender and borrower that includes the details of the loan and its payments. Bonds issued by government are called government bonds whereas bonds issued by Corporations are called Corporate bonds.
  6. DERIVATIVE INSTRUMENTS – A derivative instrument is a financial instrument which derives its value from the value of some other financial instrument or variable. Some examples of derivative instruments are as follows –
  • Forwards or Futures
  • Options
  • Swaps

7. HYBRID INSTRUMENTS – Instruments which are created by combining the features of equity, preference, bond are called as hybrid instruments. These include –

  • Convertible preference shares/bonds/debentures
  • Non – Convertible Debentures/bonds
  • Partly convertible preference shares
  • Secured premium notes

 

The capital market has two segments, Primary market where the financial instruments are created first time and the secondary market where the existing instruments are bought and sold.

In a nutshell, a capital market is a platform for lenders and borrowers to fulfil their long term requirement of funds.  It meets the people having surplus money and the people who require funds.

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