There are 22 stock exchanges in India, the first being the Bombay Stock Exchange (BSE), which began formal trading in 1875, making it one of the oldest in Asia. Over the last few years, there has been a rapid change in the Indian securities market, especially in the secondary market. Advanced technology and online-based transactions have modernized the stock exchanges. In terms of the number of companies listed and total market capitalization, the Indian equity market is considered large relative to the country’s stage of economic development. The number of listed companies increased from 5,968 in March 1990 to about 10,000 by May 1998 and market capitalization has grown almost 11 times during the same period.

The debt market, however, is almost nonexistent in India even though there has been a large volume of Government bonds traded. Banks and financial institutions have been holding a substantial part of these bonds as statutory liquidity requirement. The portfolio restrictions on financial institutions’ statutory liquidity requirement are still in place. A primary auction market for Government securities has been created and a primary dealer system was introduced in 1995. There are six authorized primary dealers. Currently, there are 31 mutual funds, out of which 21 are in the private sector. Mutual funds were opened to the private sector in 1992. Earlier, in 1987, banks were allowed to enter this business, breaking the monopoly of the Unit Trust of India (UTI), which maintains a dominant position. Before 1992, many factors obstructed the expansion of equity trading. Fresh capital issues were controlled through the Capital Issues Control Act. Trading practices were not transparent, and there was a large amount of insider trading. Recognizing the importance of increasing investor protection, several measures were enacted to improve the fairness of the capital market.

The Securities and Exchange Board of India (SEBI) was established in 1988. Despite the rules it set, problems continued to exist, including those relating to disclosure criteria, lack of broker capital adequacy, and poor regulation of merchant bankers and underwriters. There have been significant reforms in the regulation of the securities market since 1992 in conjunction with overall economic and financial reforms. In 1992, the SEBI Act was enacted giving SEBI statutory status as an apex regulatory body. And a series of reforms was introduced to improve investor protection, automation of stock trading, integration of national markets, and efficiency of market operations. India has seen a tremendous change in the secondary market for equity. Its equity market will most likely be comparable with the world’s most advanced secondary markets within a year or two. The key ingredients that underlie market quality in India’s equity market are: • Exchanges based on open electronic limit order book

The Indian capital market still faces many challenges if it is to promote more efficient allocation and mobilization of capital in the economy. Thus. market infrastructure has to be improved as it hinders the efficient flow of information and effective corporate governance. Similarly. Also.• Nationwide integrated market with a large number of informed traders and fluency of short or long positions. the sensitive index of equity prices.361 in September 1994 and fell during the following years. Second. 1994/95. 1997). India’s stock markets were dominated by BSE. Before 1995. a trading process in which traders shouted and hand signalled from within a pit. it is time for regulatory authorities to make greater efforts to recover investors’ confidence and to further improve the efficiency and transparency of market operations. The court system and legal mechanism should be enhanced to better protect small shareholders’ rights and their capacity to monitor corporate activities. motivated primarily by the need for greater transparency. Currently. Among the processes that have already started and are soon to be fully implemented are electronic settlement trade and exchange-traded derivatives. First. Before 1994. The first exchange to be based on an open electronic limit order book was the National Stock Exchange (NSE). • No counterparty risk. One major policy initiated by SEBI from 1993 involved the shift of all exchanges to screen-based trading. compared with market participants in Mumbai (Bombay). which started trading debt instruments in June 1994 and equity in November 1994. As a result. the prices in markets outside Mumbai were often different from prices in Mumbai. there was a reduced inflow of foreign investment after the Mexican and Asian financial crises. In a sense. The arbitrages are eliminating pricing discrepancies between markets. These pricing errors limited order flow to these markets. Market information is a crucial public good that should be disclosed . BSE shifted from open outcry to a limit order book market. Accounting standards will have to adapt to internationally accept accounting practices. NSE has established satellite communications which give all trading members of NSE equal access to the market. the market is now undergoing a period of adjustment. markets in India used open outcry. In March 1995. BSE and the Delhi Stock Exchange are both expanding the number of trading terminals located all over the country. the trading system has to be made more transparent. The BSE-30 index or Sensex. peaked at 4. A leading cause was that financial irregularities and overvaluations of equity prices in the earlier years had eroded public confidence in corporate shares. Rs276 billion was raised in the primary equity market. The amount of capital issued has dropped from the level of its peak year. This figure fell to Rs208 billion in 1995/96 and to Rs142 billion in 1996/97. the financial industry did not have equal access to markets and was unable to participate in forming prices. In 1994/95. 17 of India’s stock exchanges have adopted open electronic limit order. Explicit nationwide connectivity and implicit movement toward one national market has changed this situation (Shah and Thomas. the Indian capital market has been in decline during the last three years. Despite these big improvements in microstructure. In other parts of the country. and so have equity prices.

and The introduction of surveillance and monitoring systems. Computerized online trading of securities. and facilitating foreign institutional investment. Online trading systems have been introduced in almost all stock exchanges. the trading and settlement infrastructure of the Indian capital market was poor. Not all of India’s 22 stock exchanges may be able to justify their existence. eliminating counterparty risk. while smaller regional exchanges are planning to consolidate by using centralized trading under a federated structure.or made available to all participants to achieve market efficiency. Fourth. There is a pressing need to develop a uniform settlement cycle and common clearing system that will bring an end to unnecessary speculation based on arbitrage opportunities. especially in the secondary market for equity. The regulatory structure was fragmented and there was neither comprehensive registration nor an apex body of regulation of the securities market. or fraudulent and unfair trade practices since 1992. fully market-based issuance of Government securities and a more competitive banking sector will help in the development of a sounder and a more efficient capital market in India. Reforms in the secondary market have focused on three main areas:    structure and functioning of stock exchanges. automation of trading and post trade systems. Further liberalization of interest rates. it has to be integrated with the other segments of the financial system. and market intermediaries were largely unregulated. SEBI should also monitor more closely cases of insider trading. The global trend is for the elimination of the traditional wall between banks and the securities market. Third. Trading is much more transparent and quicker than in the past. reduced fiscal deficits. EFT is important for problems such as direct payments of dividends through bank accounts. The trend all over the world is to consolidate and merge existing stock exchanges. Trading on all stock exchanges was through open outcry. . major stock exchanges in India have started locating computer terminals in far-flung areas. CAPITAL MARKET REFORMS AND DEVELOPMENTS: Over the last few years. The capital market cannot thrive alone. Stock exchanges were permitted to expand their trading to locations outside their jurisdiction through computer terminals. There was no prohibition on insider trading. Stock exchanges were run as “brokers clubs” as their management was largely composed of brokers. the payment system has to be improved to better link the banking and securities industries. Securities market development has to be supported by overall macroeconomic and financial sector environments. India may need further integration of the national capital market through consolidation of stock exchanges. there has been intensified market reform. India’s banking system has yet to come up with good electronic funds transfer (EFT) solutions. settlement systems were paperbased. Thus. Until the early 1990s. resulting in a big improvement in securities trading. SEBI has announced several far-reaching reforms to promote the capital market and protect investor interests. and setting up of clearing houses or settlement guarantee funds were made compulsory for stock exchanges.

This is typically done through a syndicate of securities dealers. The process of selling new issues to investors is called underwriting. The company receives the money and issues new security certificates to the investors. though it can be found in the prospectus. These new securities issued in the primary market are traded in the secondary market. with greater institutionalization and wider participation of individual investors accompanying this growth. many problems. including lack of confidence in stock investments. the resources are mobilized either through the public issue or through private placement route. It was opened up for investment by foreign institutional investors (FIIs) in 1992 and Indian companies were allowed to raise resources abroad through Global Depository Receipts (GDRs) and Foreign Currency Convertible Bonds (FCCBs). Dealers earn a commission that is built into the price of the security offering. remain as obstacles to the improvement of Indian capital market efficiency PRIMARY MARKET & SECONDARY MARKET: The capital market has two interdependent segments: the primary market and the secondary market. PRIMARY MARKET: The primary market is that part of the capital markets that deals with the issuance of new securities. In the primary market. A primary market creates long term instruments through which corporate entities borrow from capital market. governments or public sector institutions can obtain funding through the sale of a new stock or bond issue. These securities are issued by public limited companies or by government agencies. the securities are issued by the company directly to investors. It is a public issue if anybody and everybody can subscribe for it. The primary and secondary segments of the capital market expanded rapidly.Most stock exchanges have introduced online trading and set up clearing houses/corporations. However. The secondary market enables participants who hold securities to adjust their holdings in response to changes in their assessment of risks and returns. The primary market is the market where the securities are sold for the first time. Features of primary markets are:    This is the market for new long term equity capital. Therefore it is also called the new issue market (NIM). The primary market is the channel for creation of new securities. In a primary issue. Companies. A depository has become operational for scrip less trading and the regulatory structure has been overhauled with most of the powers for regulating the capital market vested with SEBI. In the case of a new stock issue. whereas if the issue is made available to a selected group of persons it is termed as private placement. . this sale is an initial public offering (IPO). and other governance issues. There are two major types of issuers of securities. The Indian capital market has experienced a process of structural transformation with operations conducted to standards equivalent to those in the developed markets. the corporate entities who issue mainly debt and equity instruments and the Government (Central as well as State) who issue debt securities. institutional overlaps.

Methods of issuing securities in the primary market are:    Initial public offering. such as loans from financial institutions. The primary market performs the crucial function of facilitating capital formation in the economy. The secondary market for a variety of assets can vary from loans to stocks. It is therefore important that the secondary market be highly liquid (originally. Borrowers in the new issue market may be raising capital for converting private capital into public capital. the only way to create this liquidity was for investors and speculators to meet at a fixed place regularly. and from illiquid to very liquid. The new issue market does not include certain other sources of new long term external finance. The major stock exchanges are the most visible example of liquid secondary markets . SECONDARY MARKET: The secondary market. also called aftermarket.    Primary issues are used by companies for the purpose of setting up new business or for expanding or modernizing the existing business. Another frequent usage of "secondary market" is to refer to loans which are sold by a mortgage bank to investors such as Fannie Mae and Freddie Mac. securities are sold by and transferred from one investor or speculator to another. but a "second" or "third" market has developed for use in ethanol production). Most bonds and structured products trade “over the counter. from fragmented to centralized. for stocks of publicly traded companies. and futures are bought and sold. or the primary market. Loans sometimes trade online using a Loan Exchange. this is known as "going this case. bonds. investors purchase these securities directly from issuers such as corporations issuing shares in an IPO or private placement. The term "secondary market" is also used to refer to the market for any used goods or assets. Exchanges such as the New York Stock Exchange. Rights issue (for existing companies) Preferential issue. investors can purchase from other investors in the secondary market. NASDAQ and the American Stock Exchange provide a centralized. is the financial market where previously issued securities and financial instruments such as stock." The financial assets sold can only be redeemed by the original holder. this is . In the secondary market. With primary issuances of securities or financial instruments. After the initial issuance. liquid secondary market for the investors who own stocks that trade on those exchanges. Functions: Secondary marketing is vital to an efficient and modern capital market. or an alternative use for an existing product or asset where the customer base is the second market (for example. or directly from the federal government in the case of treasuries. corn has been traditionally used primarily for food production and feedstock.” or by phoning the bond desk of one’s broker-dealer. options.

. but accuracy may also matter in the secondary market because: 1) price accuracy can reduce the agency costs of management. As a general rule.. secondary markets mesh the investor's preference for liquidity (i. Fundamentally. Accurate share price allocates scarce capital more efficiently when new projects are financed through a new primary market offering. see History of the Stock Exchange). the greater the number of investors that participate in a given marketplace. the investor's desire not to tie up his or her money for a long period of time. in case the investor needs it to deal with unforeseen circumstances) with the capital user's preference to be able to use the capital for an extended period of time. and the greater the centralization of that stock exchanges originated. and make hostile takeover a less risky proposition and thus move capital into the hands of better managers 2) accurate share price aids the efficient allocation of debt finance whether debt offerings or institutional borrowing. the more liquid the market.

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