Business is a a part of economic system that consists of mainly 2 sectors i.e households which saves funds and business firms which invest these funds.

Households can buy shares and debentures offered by a business through financial markets.

FINANCIAL MARKET- A financial market is the market for the creation and exchange of securities.

Creation of financial asset takes place when company issues new shares and debentures.

Exchange of financial assets implies purchase and sale of existing shares , debentures and bonds.

-financial market helps households to invest their surplus fund and on the other hand helps business firms to fulfil their fund requirement. This is known as allocative function of financial market.

-it helps to link the savers and investors by mobilising the funds between them.

FOR EXAMPLE -Apple wants to set up its new factory for which it needs large amount of funds. Therefore, apple has 2 option through which funds can be procured

1) to take a loan from bank- banks lend loans on the basis of money deposited by households in their saving account. Further bank utilise this amount by providing loans to the business firm for their investment purpose.

2) Apple issue shares in the financial markets- households instead of depositing their surplus amount in savings account utilise it by purchasing the shares issued by apple in the financial markets , in return of that apple will be able to raise its finance. Needed for investment

So, from the above example we can see that their are 2 types of mechanism through which funds can be allocated and mobilised-

1. Banks.
2. Financial markets.

FUNCTION OF FINANCIAL MARKETS

1. Mobilising savings-  Financial markets gives savers different investment options. It helps the savers to invest or channelise their surplus funds into the most productive use.
2. Facilitate price discovery - price of any commodity is determined by the market forces of demand and supply. In the financial market, the households are suppliers of funds and business firms represent the demand. This interaction helps to establish a price for the financial asset .
3. Provide liquidity to financial assets-  financial  market facilities  easy sale and purchase of financial asset resulting in providing liquidity to financial assets, so that they can be easily converted into cash whenever required.
4. Reduce the cost of transaction- financial markets provide important information about the price, cost and availability of the securities. It helps to save time, efforts and money of both buyers and sellers thus, reducing the cost of transaction.

CLASSIFICATION OF FINANCIAL MARKET

Financial market consist of two major segments.

1. Money Market
2. Capital Market

MONEY MARKET

Money market refers to the market for short-term funds, which deals in monetary assets whose period of maturity is upto one year.

It helps to satisfy a business short term financial needs I.e temporary cash shortage, purchase of raw material etc.

Money market has no physical location and most of the activities are conducted over telephone and internet.

MAJOR PARTICIPANTS OF MONEY MARKET

1. Reserve bank of India
2. Commercial banks ( HDFC)
3. Non-banking finance companies
4. State government
5. Large corporate houses ( Reliance , TATA )
6. Mutual funds ( SBI mutual funds, HDFC mutual funds )

PROPERTY OF MONEY MARKET INSTRUMENTS

Money market instruments usually has 2 properties

1. HIGHLY LIQUID-  money market instruments are highly liquid. I.e they can be easily converted   into cash as and when required.
2. LESS RISKY-  the instruments of money market are less risky , due to shorter duration of investment and financial soundness of issuers.

INSTRUMENTS OF MONEY MARKET

1. TREASURY BILL ( T-Bill) - A Treasury Bill Is an instrument of short-term borrowing issued by the Reserve Bank of India (RBI) on behalf of Indian government.

     - They are also known as Zero Coupon Bonds issued by the Reserve Bank of India    on behalf of the Central Government to meet its short-term requirement of funds.

     -They are issued at a price which is lower than their face value and repaid at par.

     -Treasury bills are available for a minimum amount of Rs 25,000 and in multiples thereof.

     -Treasury bills are issued in the form of a promissory note

     - They are issued for a period of 14-365 days .

FOR EXAMPLE - Suppose an investor purchases a 91 days Treasury bill with a face value of Rs. 1,00,000 for Rs. 96,000. By holding the bill until the maturity date, the investor receives Rs. 1,00,000. The difference of Rs. 4,000 between the proceeds received at maturity and the amount paid to purchase the bill represents the interest received by him.

2. COMMERCIAL PAPER- Are unsecured instruments issued in the form of a promissory note , negotiable and transferable by endorsement and delivery with a fixed maturity period.

   - It usually has a maturity period of 15 days to one year.

   -  It is issued by large and creditworthy companies to raise short-term funds at lower rates of interest .

   - commercial papers can be issued in denomination of 5 lakhs and its denominations thereof.

   - commercial paper can also be issued as bridge finance.

FOR EXAMPLE - Suppose a company requires long-term finance to buy some machinery. In order to raise the funds in the capital market the company will have to incur floatation costs (costs associated with floating of an issue are brokerage, commission, printing of applications and advertising etc.). Funds raised through commercial paper are used to meet the floatation costs. This is known as Bridge Financing.

3. CALL MONEY-  Call Money Is short term finance whose , maturity varies from 1 day to 15 days.

 - Commercial banks have to maintain a minimum cash balance known as cash reserve ratio. The Reserve Bank of India changes the cash reserve ratio from time to time which in turn affects the amount of funds available to be given as loans by commercial banks.

  - Call money is a method by which banks borrow from each other to be able to maintain the Cash reserve ratio.

   - The interest rate paid on call money loans is known as the call rate.

   - There is an inverse relationship between call rates and other short-term money market instruments such as certificates of deposit and commercial paper. Whenever there is a  rise in the call money rates it makes other sources of finance i.e  commercial paper and certificates of deposit relatively cheaper in comparison for banks raise funds from these sources.

FOR EXAMPLE -Yes, bank has Rs1 00crore of funds. As per , the rbi guidelines it is required to maintain 20% as cash reserve ratio which is 20% of 100 crore I.e 20 crore. So, now yes bank is having 20 crore with them as cash but there is an urgent requirement of 25crore. So ,yes bank takes call money of Rs 5 crore from ICICI bank for 15 day @ call rate of 2%.

4. CERTIFICATE OF DEPOSIT- It is a bearer document issued by commercial banks and development financial institutions against the deposits kept by companies and institutions.

  - the time period of certificate of deposit ranges from 91 days to 1 year.

  - it Is an unsecured  and negotiable instrument and helps in raising a large amount of money for a short period .

FOR EXAMPLE - HDFC bank issue certificate of deposit of Rs 50 crore to reliance at 45crore for 6 months.

Face value= Rs 50 crore

selling price= Rs 47 crore

Maturity period= 6 months

but, after 3 months reliance sells this certificate of deposit to Tata at 47crore . Now, after 3 months at maturity Tata will go to bank and take 50 cr.

5. COMMERCIAL BILL- it is short-term instrument used by business firms to finance their working capital requirements .

  - it is a written acknowledgement of debt, where seller draws the bill and buyer accepts it. On being accepted, the bill becomes a.  Marketable instrument and is called a Trade Bill.

  - trade bills are commonly used in credit purchases and sales.

   - These bills can be discounted with a bank if the seller needs funds before the bill matures. When a trade bill is accepted by a commercial bank it is known as a commercial bill.