Most successful firms have ongoing needs for funds. They can obtain funds from external sources in three ways. One is through a financial institution that accepts savings and transfers them to those that need funds.
Another is through the financial market that organized forums where the suppliers and demanders of various types of funds can make transactions. A third is through private placement. Because of the unstructured nature of the private placement, we focus primarily on financial institutions and financial markets.
What Does Financial Institution Mean?
The financial institution serves as the intermediary by channeling the savings of individuals, businesses, and governments into loans or investments. Many financial institutions directly or indirectly pay savers interest on deposited funds; others provide services for a fee.
Some financial institutions accept customers’ savings deposits and lend their money to other customers or firms; others invest their savings in earning assets such as real estate, stocks, and bonds.
- The financial institution is an intermediary that channels the savings of individuals, businesses, and governments into loans or investments. – L. J. Gitman
- Financial intermediaries are financial institutions that accept money from savers and use those funds to make loans and other financial investments in their name. – Van Home & Wachowicz
- Financial intermediaries are financial institutions that serve as an intermediary between savers of funds and users of funds. – Prasanna Chandra
Financial institutions’ key suppliers and demanders are individuals, businesses, and governments.
The government requires financial institutions to operate within established regulatory guidelines. The major financial institutions are banks, non-banking financial institutions, insurance companies, leasing companies, pension funds, and mutual funds.
What Does Financial Market Mean?
A financial market is a market for creating and exchanging financial assets. If you buy or sell financial assets, you will participate in financial markets somehow. A financial market is an original forum where the suppliers and demanders of various funds can transact.
- Financial markets are the markets where financial assets are traded. – C. P. Jones
- A financial market is a market in which financial assets (or securities) such as stocks and bonds are traded. – Jeff Madura
- Financial markets are all institutions and procedures for bringing buyers and sellers of financial instructions together. – Van Home & Wachowicz
So, the financial market is a forum in which suppliers and demanders of funds can transact business directly.
Types of Financial Market
On the basis of issuing, the types of financial markets are primary markets and secondary markets.
All securities are initially issued in the primary market. This is the only market in which the company or government issuer is directly involved in the transaction and receives a direct benefit from the issue.
That is, the company receives the proceeds from the sale of securities. A primary market is a “new issues” market, and a firm raises new capital from this market.
Once the securities begin to trade between savers and investors, they become part of the secondary market. The secondary market is where existing, already outstanding securities are traded among investors.
In the secondary market, the original issuer has no part in the transaction. This market exists to facilitate investor trading.
Based on security/ duration, the types of financial markets are Money Market and capital market.
The money market is the market for securities with maturities of less than one year. The money market is the short-term market. It includes securities originally issued with maturities of one year or less.
The major money market securities are Treasury bills, commercial paper, accounts payable, banker’s acceptance, letters of credit, negotiable certificates of deposit, and repurchase agreements.
The capital market is the market for long-term debt, bonds, and stocks. The distinguishing feature of the securities traded in capital markets is their life of longer than one year and common stock with no maturity period.
The major capital market securities are common stock, preferred stock, bonds, mortgages, and other debt instruments.
Based on Trading, types of financial markets are; organized Security Exchange and over-the-counter (OTC) markets.
Organized Security Exchange
The organized security exchange is a formal organization with a physical location that brings together buyers and sellers of securities in the secondary market.
The security exchanges provide a marketplace where the firms can raise funds by selling new securities, and securities purchases can easily resell them when necessary.
Many people call a security exchange a stock market. The organized exchanges in our country are New York Stock Exchange (NYSE), London Stock Exchange (LSE), Tokyo Stock Exchange (TSE), etc.
Over the Counter (OTC) Market
the OTC market is the market for purchasing and selling securities not listed by the organized exchange. OTC is the term used to describe all buying and selling activities that do not occur on an organized exchange.
The OTC market is made up of security dealers or brokers who use telecommunications; interact to create a market for various securities. The bonds and stocks are traded in OTC as opposed to being traded on an organized exchange.