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Chapter 8: Financial Markets and Government Securities V4.

Chapter 8: Financial Markets and Government Securities V4.0 Certificate in Risk Management
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Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

Directory Interaction
After the completion of this session you would be able to

Understand the various types of markets Understand the functioning of various types of markets. Explain the distinction between various markets. Understand the financial instruments traded in each market. Explain the various government securities traded in the markets Click the Interaction button to edit this interaction
Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

Financial Markets Capital Market


The Money Market Insurance Market Foreign Exchange Financial Market Various Government Securities Summary

Primary market Secondary market Derivative Market Stock Market Commodity Market Debt Market

The Repo Market Uses of Repo

Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

Financial Market is a broad market where buyers and sellers exchange various types of financial securities or products that comprise financial securities.
Financial Market serve various purposes to a variety of individuals and corporations. Such markets facilitate Investment and purchase of assets. Financial markets also facilitate handling of various risks. Financial markets enable the investor to: raise capital, transfer risk and undertake international trade.

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Chapter 8: Financial Markets and Government Securities V4.0

Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

Capital markets consists of:

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Primary markets Secondary markets Stock Market Debt Market Commodity Market Derivative Market

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Chapter 8: Financial Markets and Government Securities V4.0

Market for long-term loans and equity capital. Companies and the government can raise funds for long-term investments via the capital market.

The capital market includes the stock market, the bond market, and the primary market.
The government monitors securities trading on organized capital markets New issues are approved by authorities of financial supervision and monitored by participating banks. Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

The place where bonds (or equity) are issued for the first time The Primary Market is the financial market center for the initial issue and placement of securities. Unlike in the secondary market, no organized stock exchanges are necessary. Securities dealers see this as the wholesale part of their business. The securities that they sell are called initial public offerings (IPOs). This market is also called the New Issue Market. It Has Various Methods Of Float Capital: Following are the methods of raising capital in the primary market: i) Public Issue ii) Offer For Sale iii) Private Placement iv) Right Issue v) Electronic-Initial Public Offer

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Chapter 8: Financial Markets and Government Securities V4.0

Financial market for trading of already issued securities.


Secondary market is the place where trade of bonds (or equities) happens between bondholders (or shareholders). The issuing firm is not directly connected with the secondary market, except that its performance affects the bond (or equity) price in the secondary market. In the secondary market, securities are sold by and transferred from one investor to another. The activity on the secondary market is mainly sale and purchase of various bonds at the current market value of the bond. Example of secondary markets are New York Stock Exchange.

Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

Quiz

The new issue market cannot function without the secondary market. The secondary market or the stock market provides liquidity for the issued securities the issued securities are traded in the secondary market offering liquidity to the stocks at a fair price. The stock exchanges through their listing requirements, exercise control over the primary market. The company seeking for listing on the respective stock exchange has to comply with all the rules and regulations given by the stock exchange. The primary market provides a direct link between the prospective investors and the company. By providing liquidity and safety, the stock markets encourage the public to subscribe to the new issues. Thus, it provides an indirect link between the savers and the company. Even though they are complementary to each other, their functions and the organizational set up are different from each other. The health of the primary market depends on the secondary market and vice-versa.
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Chapter 8: Financial Markets and Government Securities V4.0

Market for the trading of publicly held company stock and associated financial instruments including

Traditionally such markets were open-outcry where trading occurred on the floor of an exchange. Now-a-days increasingly the markets are cyber-markets with buying and selling occurring via online real-time matching of orders placed by buyers and sellers.

stock options, convertibles and stock index futures

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Chapter 8: Financial Markets and Government Securities V4.0

Refers to the stock of a publicly traded company Equity market is one of the strongest indicators of the macro perspective of an economy

Various kinds of equity

Common stock - A firm releases its shares in the stock market (called the primary market if the company is issuing for the first time, secondary market if the shares are traded between the traders), the value of the share is called the face value or the par value of the share. Preferred stock - A preferred stock holder is assured of annual dividends, whether or not the firm makes profits. The amount of dividend is predecided during the time of the issue itself. The voting rights of the preferred stockholders also differ from the equity shareholders

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Chapter 8: Financial Markets and Government Securities V4.0

The market in which bonds are traded before their maturity.


If interest rates decline after a bond has been issued, the value of bonds already issued with higher rates of interest will rise, and hence the bond market is said to be up. A rise in interest rates will lower the value of bonds issued with lower rates of interest and send the bond market down.

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Chapter 8: Financial Markets and Government Securities V4.0

Commodity market is a vital component of the financial market of any country. It is the market where a wide range of products like crude oil, metals, energy and commodities like oil, coffee etc. are traded. It is important for an economy to have a vibrant, active and liquid commodity market.

This would not only help the investors to hedge their commodity risk but also to take speculative positions in commodities as well as to avail the arbitrage opportunities in the market
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Chapter 8: Financial Markets and Government Securities V4.0

Derivatives are financial products whose value is derived from the price of some underlying asset like securities, commodities, bullion, currency, stock market index etc. It specifies the right or obligation to receive or deliver future cash flows based on some agreed upon future event . They provide risk hedging mechanism to investors. Derivatives markets can be standardized or non-standardized. One such derivatives market is for standardized stock options. Non-standardized derivatives instruments, such as naked warrants issued directly by financial institutions to a secondary market, also exist.

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Chapter 8: Financial Markets and Government Securities V4.0

In insurance, the insured makes payments called "premiums" to an insurer, and in return is able to claim a payment from the insurer if the insured suffers a defined type of loss. This relationship is usually drawn up in a formal legal contract. Insurance companies earn investment profits, because they have the use of the premium money from the time they receive it until the time they need it to pay claims. This money is called the float. The important types of insurance are Business insurance, credit Coverage, locked funds insurance, financial loss insurance etc.

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Chapter 8: Financial Markets and Government Securities V4.0

Foreign Exchange Financial Market

These are global markets where currency of different countries is traded round the clock. These markets are usually highly liquid particularly in the G7 currencies (USD, JPY, EUR, CHF, GBP, CAD, AUD). The main international banks continually provide the market with both bid (buy) and ask (sell) offers. The volume of trading in the foreign exchange markets exceeds that in any other market, liquidity is extremely high. In the foreign exchange Financial Market there is little or no 'inside information'.
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Chapter 8: Financial Markets and Government Securities V4.0

Rate fluctuations are usually to do with world economy or the national economies. Big foreign exchange trading centers are located in New York, Tokyo, London, Hong Kong, Singapore, Paris and Frankfurt amongst others.

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Chapter 8: Financial Markets and Government Securities V4.0

Money Market

The markets in which banks lend to and borrow from each other, trade financial instruments such as Certificates of Deposit (CDs) or enter agreements such as Repos and Reverses. It provides short to medium term (up to one year) liquidity in the global financial system. Derivatives of the money market include forward rate agreements (FRAs) and futures. Trading takes place between banks in the "money centers" (New York and London primarily, also Chicago, Frankfurt, Paris, Singapore, Hong Kong, Tokyo, Toronto, Sydney).

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Chapter 8: Financial Markets and Government Securities V4.0

A repurchase agreement (or repo) is an agreement between two parties whereby one party sells the other a security at a specified price with a commitment to buy the security back at a later date for another specified price.
Most repos are overnight transactions, with the sale taking place one day and being reversed the next day. Long-term reposcalled term reposcan extend for a month or more. The party who sells and later repurchases a security is said to perform a repo. Repos are classified as a money-market instrument. They are usually used to raise short-term capital.

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Chapter 8: Financial Markets and Government Securities V4.0

Reverse Repo is a term used to describe the opposite side of a repo transaction. The party who sells and later repurchases a security is said to perform a repo The partywho purchases and later resells the securityis said to perform a reverse repo. The initiator buys securities with the promise of selling them back at a future date. Therefore, for every repo there is a reverse repo.
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Chapter 8: Financial Markets and Government Securities V4.0

While a repo is legally the sale and subsequent repurchase of a security, its economic effect is that of a secured loan. Economically, the party purchasing the security makes funds available to the seller and holds the security as collateral .

Securities dealers use repos to finance their securities inventories


There are two possible motives for entering into a reverse repo:

short-term investment of funds, or to obtain temporary use of a particular security.

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Chapter 8: Financial Markets and Government Securities V4.0

Dated Securities Zero Coupon Bonds Partly Paid Stock Floating rate bonds Bonds with Call/Put options. Capital Indexed Bonds.
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Chapter 8: Financial Markets and Government Securities V4.0

These are issued by the RBI on behalf of the Government of India in lieu of the Central Government market borrowing program.

Savings Bonds These are non-marketable savings instruments designed for just about anyone who wants a marginal return and they can be purchased with only a few dollars.
Treasury Bills Treasury bills (T-bills) are short-term securities. The Government of India issues three types of T-bills through auctions, namely, 91-day, 182-day and 364-day. The State Government does not issue any T-bills. These are available for a minimum amount of Rs 25, 000 and in multiples of Rs 25, 000. Treasury Notes These are intermediate-term securities having a maturity of one to ten years and issued in denominations of $1,000 or more. Treasury Bonds These are long-term securities having maturities of 10 years or longer and issued in denominations of $1,000 or more. Bonds pay interest (coupon payments) semiannually, and the principal is payable at maturity. Inflation-Indexed Notes These are newly introduced securities available in 10-year maturities and designed to offset inflation devaluation effect on the investment.
Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

This session talked about the various types of markets dealing with financial instruments, their functioning, the differences of their trading and the various instruments which trade in these markets. This session also gives an overview of the various government instruments traded in the market. How these instruments differ from each other and their payoffs have also been discussed. The session also covers repo market and the functioning and uses of the repo market. It also gives the detailed working of the repo and its usage to maintain the liquidity in the market.
Certificate in Risk Management

Chapter 8: Financial Markets and Government Securities V4.0

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