Different Kinds of Financial Markets You can Invest In

Different Kinds of Financial Markets You can Invest In

The phrase “financial markets” is an umbrella term referring to any marketplace where buyers and sellers of assets participate. In the financial markets, they can trade assets like equities, bonds, currencies, and derivatives, among others. These markets usually have transparent pricing, basic regulations, fees, and market forces that determine the price of securities.

You can find financial markets in almost every country in the world. Some of them are quite small and have only a few participants. Others are big and trade trillions daily, like the New York Stock Exchange.

Investors can access a plethora of financial markets and exchanges that represent a wide selection of financial products.  Some of them have always been open for private investor, while other are for large international banks.

Different kinds of financial Markets

In this article, we’ll talk about these financial markets and describe their difference. Read this to learn more about them!

Capital Markets

A capital market is where individuals and institutions can trade financial securities. Organizations and institutions in the private and public sector also sell securities on this market to raise funds. Therefore, this type of market is made of both the primary and secondary markets.

To run operations and engage its own long-term investments, governments and companies need capital or funds. These entities raise money through the sales of securities – bonds and stocks – in their names. They can buy and sell the securities in the capital markets.

Stock Markets

The stock market enables investors to buy and sell equities in publicly traded companies. Because they provide firms and companies access to funds and investors with a part ownership in the company as well as the potential gains depending on the company’s growth, the stock market is considered to be one of the most vital areas of a market economy.

You can divide this market into two primary sections, namely the primary and secondary markets. The primary market is where entities offer new issues. Any of the subsequent trading goes on in the secondary market.

Bond Markets

A bond is a debt investment. It is where an investor loans a company or government for a definite period at a fixed interest rate.

Companies, governments, states, municipalities, and other similar entities use bonds to fund projects and activities. Also, investors can buy and sell bonds on credit markets from around the globe.

Moreover, you can call the bond market in other names like debt, credit, or fixed-income market. And it’s quite larger than the stock market in nominal terms. Among the main category of bonds are corporate, municipal, and US Treasury bonds, notes, and bills, which you can collectively refer to as “Treasuries.”

Money Market

The money market is a portion of financial markets where you can trade instruments with high liquidity and short maturities. Participants use the money market as a way to borrow and lend for a short term. That practically means from a few days to just under a year.

Among the money market securities are:

  • Negotiable certificates of deposit (CDs)
  • Banker’s acceptances
  • US Treasury bills
  • Commercial papers
  • Municipal notes
  • Eurodollars
  • Federal funds
  • Repurchase agreements

You can call money market investments as cash investments due to their short term maturities.

Various participants use the money markets. Among them are companies raising funds through the sales of a commercial paper into the market. They can also be investors buying CDs to safe-keep their money in the short term.

You can quite consider the money market as a safe place to park your money since its highly liquid. And since they are very conservative, money market securities provide lower returns than many other securities.

However, there are some risks in the money market, such as the risk of default on assets like commercial papers.

Cash or Spot Market

Investing in the cash or spot market is extremely sophisticated. It also offers chances of gaining huge returns (of course, you can also lose quite much). In the cash market, you buy items with cash and you get them instantly. Similarly, the contracts one buys or sells become effective immediately after sales.

One settles prices in cash or “on the spot” at current market prices. This is remarkably different from other markets, where trades have forward prices.

The cash market is complicated and delicate. It’s generally not suitable for newbie traders. The cash markets usually have more so-called institutional investors, like hedge funds, limited partnerships, and corporate investors.

The sheer nature of the products needs access to extensively comprehensive information. Additionally, it needs high level of macroeconomic analysis and trading expertise.

Derivatives Market

Derivatives are products that derive their value from underlying assets. A derivative is a contract whose price depends on the value of the core asset. The derivatives market adds another layer of complexity to the financial markets. That simply means that this market is not suitable for beginner traders trying to speculate. However, you can still use it as part of your risk management strategy.

derivatives market is one of the financial markets

Some common kinds of derivatives are futures, options, swaps, forwards, and contracts for difference. In addition to the complex nature of the instruments, you must use complex strategies on them as well.

Further, there are also myriad derivatives, structured products, and collateralized obligations.  They are largely found in the over-the-counter (OTC) markets. And professional investors, institutions, and hedge fund managers use them in different degrees. On the other hand, that plays quite a minimal role in private investing.

Forex and Interbank Markets

The interbank market refers to the financial system and currency trading of banks and institutions. This does not include retail investors and smaller trading parties. Some banks conduct interbank trading on behalf of their clients. However, most banks perform interbank trading in their own accounts.

Meanwhile, the forex market is where investors trade currencies. It’s the largest, most liquid market in the world, sporting more than $1.9 trillion per day on average traded value. This market is the biggest market in the world when it comes to the overall cash value traded. Any person, country, or company can participate in this market.

The forex market has no central marketplace for currency traders. Participants do the trades over the counter. Also, this market is open 24 hours a day, five days a week. Market participants trade currencies worldwide. The major financial exchanges in this market are in:

  • New york
  • London
  • Tokyo
  • Frankfurt
  • Zurich
  • Singapore
  • Hong Kong
  • Sydney
  • Paris

Until recently, large financial entities, central banks, corporations, and extremely high net worth individuals were the only ones with access to this market. But because of the advent of the internet, it’s now possible for investors to buy and sell securities with one click through their online brokerage accounts.

Primary Markets and Secondary Markets

A primary market is the one that issues new securities through an exchange. Because of that, it’s also the “new issue market.” Underwriting groups facilitate this market. And such group includes investment banks that set price ranges for a security.

It is in the primary markets where you get your first chance of participating in a new security issuance. The issuing company or group gets some cash proceeds from the sale. And they use the money to fund their operations and grow their business.

The secondary market, on the other hand, is where investors buy securities or assets from other investors. The Securities and Exchange Commission (SEC) registers securities prior to their primary issuance. Afterwards, they begin trading in the secondary market on the NYSE or NASDAQ.

This market is also where huge chunks of trading take place each day. Primary markets can see higher volatility over secondary markets since it’s difficult to gauge investor demand for a new security until days of trading happened.  In the primary markets, they set the prices beforehand. In the secondary market, basic forces like supply and demand determine the security’s price.

There are also secondary markets for other securities like when funds, banks, and entities buy mortgages from issuing lenders. In the secondary market trade, the cash go to investors instead of the underlying company or entity.

OTC Markets

The over-the-counter (OTC) market is a type of secondary market. You can also call this the dealer market. Over-the-counter means the investors do not trade the security on an exchange like the NYSE or NASDAQ.

In general, this means that the security either trades on the OTC bulletin board (OTCBB) or the pink sheets. None of these networks is an exchange. As a matter of fact, they consider themselves as providers of security pricing information.

OTCBB and pink sheet companies have fewer regulations to adhere to than those on an exchange. Most of the securities that trade this way are penny stocks, among other things.

Financial Markets: Final Words

To sum up, investors can choose to trade on different markets as long as they understand the roles that each market plays. They carry with them different characteristics that may or may not be suitable for the trader or investor. The important thing to remember is that the investor needs to acquire deep understanding of the benefits and risks of investing in each market.

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