A financial market is a market in which people and entities can trade financial securities, commodities and other financial assets at prices that are determined by pure supply and demand principles. It also facilitates borrowing and lending by facilitating the sale by newly issued financial assets.
They are commissioned agents of a buyer (or seller) who
facilitate trade by locating a seller (or buyer) to complete the desired
transaction and does not maintain inventories in these assets. Their profit is
determined by the commissions they charge to the users of their service.
They facilitate trade by matching buyers with sellers of assets and maintain inventories in the assets he or she trades that permit the dealer to sell out of inventory rather than always having to locate sellers to match every offer to buy. They do not receive commissions.
A regulator is an official or body that monitors the behavior of companies and the level of competition in particular markets.
Financial regulations are a form of regulation or supervision, which subjects
market participants to certain requirements, restrictions, and guidelines,
aiming to maintain the integrity of the financial system e.g CMA.
They include:
These are institutions or individuals that channel funds between surplus and deficit agents and thus often act as middlemen e.g. commercial banks.
Assists in the initial sale of newly issued securities i.e.
IPOs by engaging in a number of different activities:
Advice: Advising corporate on whether they should issue
bonds or stock, and, for bond issues, on the particular types of payment
schedules these securities should offer
Underwriting: Guaranteeing corporate a price on the
securities they offer, either individually or by having several different
investment banks form a syndicate to underwrite the issue jointly;
Helps clients raise money: It assists in the initial sale of
newly issued securities by engaging in different activities:
Assistance in legal and procedural formalities: Before
securities are issued, there are a lot of legal formalities which need to be
carried out. These include preparing the prospectus, submitting the same to the
regulator, book running, etc.
Advice on pricing: Investment bankers help the issuer get an
optimum price for the security which is being issued.
Financial markets are classified in the following ways:
A capital market is where both individuals and financial
institutions trade financial securities. Organizations and financial
institutions are able to sell securities on the capital markets in order to
raise funds.
The capital market composed of both the stock and bond
markets:
The stock market consists of:
Primary Market - where securities such as shares and
bonds are being created and traded for the first time without using any
intermediary such as an exchange in the process, e.g an IPO
Secondary Market - where investors purchase previously issued securities such as stocks, bonds, futures and options from other investors, rather from issuing companies themselves e.g. through the Nairobi Securities Exchange.
The money market is where financial instruments with high
liquidity and very short maturities are traded. It is used as a means for
borrowing and lending in the short term, from several days to just under a year
e.g. Treasury bills.
This is where different currencies from all over the world are bought and sold.
This is where derivatives (financial contract to exchange a
certain underlying asset at a certain price in a specified future time) are
traded.
Derivatives can be traded through an exchange or over- the –counter.
An Exchange Traded derivative is
standardized has no counterparty risk as the parties require to pay an initial
deposit to a clearinghouse, traded within fixed hours, governed by strict
rules of how they are traded, there are a limited number of derivatives listed on
the exchange
An Over-the-Counter (OTC) derivative is customized between the two parties, the contracts are bilateral thus have counterparty risk, most are traded over the phone, contracts can be traded at any time of day, there is flexibility on how people can trade and more products are available for trading.
There are four common types of derivatives:
The owner has the right, but not the obligation, to buy or sell the underlying asset at a specific time in the future at a specific price (strike price).
They are exchange-traded derivatives. They are contracts between two parties to exchange an underlying asset at a specified price in the future. They have daily settlements and are traded in an active secondary market with a clearinghouse and require daily cash settlement.
They are over- the- counter derivative. One party agrees to buy the asset at a specified date in the future at a specified price. An investor would enter into this contract to hedge against an existing exposure to risk. The party that agrees to buy the underlying asset has a long forward position and the party that agrees to sell the underlying asset has a short forward position.
They are over –the- counter instruments. They are arrangements
to exchange a series of payments on periodic settlement dates over a certain
period of time.
The commodity market manages trading in primary products
which takes place where entirely financial transactions increasingly outstrip
physical purchases that are to be delivered. Commodities are commonly
classified into two subgroups.
Hard commodities are raw materials typically mined, such as
gold, oil, rubber, iron ore, etc.
Soft commodities are typically grown agricultural primary products such as wheat, cotton, coffee, sugar, etc.