Unit - 1Overview of FinancialMarkets and Institutions Sitaram Dhakal
Overview• Functions of Financial Markets• Regulation of Financial Markets• Role/Importance of Financial markets
Functions of Financial Marketsa. Transfer of fundsb. Providing of liquidityc. Securities pricingd. Resource allocation
Transfer of Funds • Facilitate the transfer of funds from savers and investors to spenders. • Funds are transferred from a surplus spending units (SSU’s) to deficit spending units ( DFU’s ) • These funds transfers occur in the primary financial markets. – SSU = net saver – DSU = net spender 3 Major Sectors •Households - typically net SSU’s •Business - typically net DSU’s •Government - almost always net DSU’s
Providing Liquidity • Liquidity is usually defined as the ease with which we can sell an asset on short notice without a loss in its value. • Provide liquidity for sellers of securities in the secondary market. •Assets with good liquidity: •Stock issues included in the Dow Jones Averages or the NASDAQ 100 index •Options on popular stocks •Gold coins •Treasury Bills, Notes, and Bonds •Assets with poor liquidity: •Common Stock with poor transaction turnover •Russian bonds issued by the Czar in 1905
Securities pricing • Facilitate pricing of various financial securities. • Securities pricing is accomplished through the supply-demand forces in a potential market. • Individual investors make decisions about what they feel are the intrinsic values of different financial assets. • Where the supply and demand curves meet the market arrives at an equilibrium price.
Resource allocation securities are sold by• In the primary financial markets, businesses and government entities that are raising money.• Firms raising money for investment purposes must compete with other security issuers ( public and private ) for available money.• Since the investors who provide these funds are interested in earning the highest return for a given level of risk, they have an incentive to evaluate these different investment opportunities and choose the best investments.• Through this process, they channel available investment funds in the economy to their highest and best possible uses.
Regulation of Financial Markets • Subject to regulations imposed by regulatory agencies such as Securities and Exchange Commission (SEC) in US and Securities Board of Nepal. • The primary purpose is to regulate and develop securities market and protect investors’ rights. – To ensure that investors have full and accurate (fair) information available at time of making securities trade (disclosing information). – To compel to register securities of public companies – To force to provide legal document ‘prospectus’ to users. – To monitor trading at exchange centers to ensure that market participants do not trade securities based on insider information. – To impose regulations of FMs to stabilize in security price (i.e. circuit breakers in organized exchange)
Role/Importance of Financial markets • Facilitate the efficient allocation of funds. • Allow investors to invest in financial securities and earn a reasonable rate of return. • Facilitate financial transactions through the creation, sale and transfer of financial securities. • Facilitate Companies and governments to raise capital. • Computing total return for overall stock market. • Create an index portfolio or tracker fund. • Calculate market risk . • Technical analysis.