Capital Market in India

CA Manish K Dhoot (CA, B. Com, NCFM, CPCM) (5015 Points)

21 August 2010

Capital Market in India

The capital market has 3 components - the equity market, the debt market, and the derivative market. It consists of all those connected with issuing and trading in equity shares and also medium and long term debt instruments, namely, bonds and debentures. It is well accepted that tenures less than one year are considered as short term; while tenures more than one year and up to three years may be taken as medium term while more than three years can be considered as long term.

Both equity and debt market have 2 segments - the primary market dealing with new issues of equity and debt instruments and the secondary market which facilitates trading in equity and debt instruments thereby imparting liquidity to the instruments and making it possible for people with different liquidity preferences to participate in the market.

The capital market operations are regulated by the Securities and Exchange Board of India [SEBI]

Primary Market

The primary market provides a channel for sale of new securities. This market provides opportunity to issuers of securities, the government as well as corporate, to raise resources to meet their requirements of investments and/or discharge their obligations.

They may issue securities at face value, discount, or premium. They may also issue the securities in the domestic market and/or the international market.

Different kinds of issues:

Initial Public Offering [IPO] - An initial public offering is when an unlisted company makes either a fresh issue of securities of an offer for sale of its existing securities or both for the first time to the public.
Further Issue - A follow on public offering is known as further issue. This is offered through an offer document when an already listed organization makes either a fresh issue of securities to the public or an offer for sale to the public.
Rights Issue - Here, a listed organization proposes to issue fresh securities to its existing shareholders as on a record date. The rights are offered in a particular ratio to the number of securities held prior to the issue. This route is best suited for organizations who would like to raise capital without diluting the stake of its existing shareholders.
Preferential Issue - This is an issue of either shares or convertible securities by listed organizations to a select group of people under Section 81 of the Companies Act,1956. This issue is neither a Rights issue nor Public issue and is a faster way for any organization to raise capital.

Reply
Follow
Share

Secondary Market

The secondary market facilitates trading in equity and long term debt instruments, and therefore imparts liquidity and price discovery. It is an equity-trading venue in which the already existing or pre-issued securities are traded among investors. This market could be either the auction-market or the dealer market. While stock exchange is the part of the auction market, OTC is a part of the dealer market.

Concepts of secondary market:

Corporate Action - Declaration of dividends, issue of bonus shares, and splitting shares into smaller denominations are called corporate actions. They impact the market price of shares as they alter the intrinsic value of the shares.

Buyback of Shares - Buyback is a method for an organization to invest by buying shares from other investors in the market. It is done by the organization for the purpose of improving the liquidity in its shares and enhancing the shareholders’ wealth. As per SEBI regulations, the organization is permitted to buy back its shares from:

Existing shareholders proportionately through an offer document
Open market through stock exchanges using the book-building process
Shareholders holding odd lot shares

Index - Index shows how a specified portfolio of share prices is moving to give an indication of the market trends. It is a basket of securities and the average price movement of the basket of securities indicates the index movement, whether upwards or downwards. S& P CNX Nifty (Nifty), is a scientifically developed, 50stock index, reflecting accurately the market movement of the Indian markets.

Sens*x - Sens*x is an index based on shares traded on the BSE. The Sens*x and Nifty are the barometers of the Indian markets. The indices are composite in nature in that they cover a large segment of industries.

Secondary Market

Concepts of secondary market:

Existing shareholders proportionately through an offer document
Open market through stock exchanges using the book-building process
Shareholders holding odd lot shares

Derivatives

Derivative is a product whose value is derived from the value of one or more basic variables, called underlying. The underlying asset can be equity, index, foreign exchange (Forex), commodity, or any other asset.

Types of derivatives:

Various types of derivatives relating to shares are:

Forwards - This is a customized contract between two entities, where settlement takes place on a specific date in the future at today’s pre-agreed price.

Futures - It is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price.

Options - An option is a contract which gives the right, but not an obligation, to buy or sell the underlying at a stated date and a stated price.

Warrants - Options generally have lives of up to one year. Most of the options on exchanges have maximum maturity of nine months. Longer dated options are called warrants and these are generally traded over-the-counter

Interest rate derivatives:

Swaps involve exchange of one stream of interest payments for another stream of interest payments. For example, an organization that has taken a loan at fixed interest rate may like to convert it to a floating rate loan. The organization can enter into a swap transaction with a bank to get interest at fixed rate and pay interest on the same notional capital, the amount of the loan at floating rate. Banks offer interest rate swaps to its customers.

Commodity derivatives:

A commodity exchange is an organization, such as stock exchange, organizing futures trading in commodities. The main commodity exchanges in India are the NCDEX and MCX both of which offer on line trading facility. These markets trade contracts for which the underlying asset is commodity. It can be an agricultural commodity such as wheat, soybeans, rapeseed, cotton, or precious metals like gold and silver.