CHAPTER

10FINANCIAL MARKETS

IDEA SEEKS TO CAPITALISE ON

MARKET MOMENTUM

With the explosive growth of theirsubscriber base, telecom companiesare all looking at capital markets toraise funds to fuel their expansionplan. Idea Cellular, the fifth largestoperator in the country and theflagship telecom venture of AV BirlaGroup, has decided to enter the capitalmarket to raise between Rs. 1,700 andRs. 2,000 crore.

The company has appointed J.M.Morgan Stanley, Merrill Lynch amongother as book-runners for theproposed Initial Public Offer (IPO),which is expected to be ready byJanuary end.

Since, under SEBI norms, theminimum float size is 10 per cent, thecompany will divest between 10and 12 per cent, “The last privateplacement made by the promoters isat a market capitalisation ofRs. 15,000 crore. The proposed floatis expected to be at 10 to 20 per centpremium of the private placementprice,” AV Birla Group recentlydivested 35 per cent stake in thecompany to a clutch of private equityfirms. However, this is a fresh issue ofshares, where the proceeds will beutilised by Ideal Cellular for capitalexpenditure. After the proposedissues, the promoters stake will comedown to around 58 per cent.

Source: www.hindustantimes.com

LEARNING OBJECTIVES

After studying this chapter, youshould be able to:

explain the meaning ofFinancial Market;

explain the meaning of MoneyMarket and describe itsInstruments;

explain the nature and types ofCapital Market;

distinguish between MoneyMarket and Capital Market;

explain the meaning andfunctions of Stock Exchanges;

explain the functioning of NSEIand OTCEI; and

describe the role of SEBI ininvestor protection.

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INTRODUCTION

You all know that a business needsfinance from the time an entrepreneurmakes the decision to start it. It needsfinance both for working capitalrequirements such as payments forraw materials and salaries to itsemployees, and fixed capitalexpenditure such as the purchase ofmachinery or building or to expand itsproduction capacity. The aboveexample gives a fair picture of howcompanies need to raise funds from thecapital markets. Idea Cellular decidedto enter the Indian capital market forits needs of expansion. In this chapteryou will study concepts like privateplacement, Initial public Offer (IPO) andcapital markets which you come acrossin the example of Idea Cellular.Business can raise these funds fromvarious sources and in different waysthrough financial markets. Thischapter provides a brief description ofthe mechanism through which financesare mobilised by a business organisationfor both short term and long termrequirements. It also explains theinstitutional structure and the regulatorymeasures for different financial markets.

CONCEPT OF FINANCIAL MARKET

A business is a part of an economicsystem that consists of two main

sectors – households which save fundsand business firms which invest thesefunds. A financial market helps to linkthe savers and the investors bymobilizing funds between them. Indoing so it performs what is known asan allocative function. It allocates ordirects funds available for investmentinto their most productive investmentopportunity. When the allocativefunction is performed well, twoconsequences follow:

• The rate of return offered tohouseholds would be higher

• Scarce resources are allocated tothose firms which have the highestproductivity for the economy.

There are two major alternativemechanisms through which allocationof funds can be done: via banks orvia financial markets. Households candeposit their surplus funds withbanks, who in turn could lend thesefunds to business firms. Alternately,households can buy the shares anddebentures offered by a businessusing financial markets. The processby which allocation of funds is doneis called financial intermediation.Banks and financial markets arecompeting intermediaries in thefinancial system, and give householdsa choice of where they want to placetheir savings.

HOUSEHOLDS BUSINESS FIRMS

INVESTORSSAVERS

BANKS FINANCIAL MARKETS

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wherever a financial transactionoccurs. Financial transactions couldbe in the form of creation of financialassets such as the initial issue ofshares and debentures by a firm or thepurchase and sale of existing financialassets like equity shares, debenturesand bonds.

FUNCTIONS OF FINANCIAL MARKET

Financial markets play an importantrole in the allocation of scarceresources in an economy by performingthe following four important functions.

facilitates the transfer of savings fromsavers to investors. It gives savers thechoice of different investments and thushelps to channelise surplus funds intothe most productive use.2. Facilitate Price Discovery: You allknow that the forces of demand andsupply help to establish a price for acommodity or service in the market. Inthe financial market, the households aresuppliers of funds and business firmsrepresent the demand. The interactionbetween them helps to establish a pricefor the financial asset which is beingtraded in that particular market.

A financial market is a market forthe creation and exchange of financialassets. Financial markets exist

Financial System

1. Mobilisation of Savings andChanneling them into the mostProductive Uses: A financial market

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3. Provide Liquidity to FinancialAssets: Financial markets facilitate easypurchase and sale of financial assets.In doing so they provide liquidity tofinancial assets, so that they can beeasily converted into cash wheneverrequired. Holders of assets can readilysell their financial assets through themechanism of the financial market.

4. Reduce the Cost of Transactions:Financial markets provide valuableinformation about securities beingtraded in the market. It helps to savetime, effort and money that bothbuyers and sellers of a financial assetwould have to otherwise spend to tryand find each other. The financialmarket is thus, a common platformwhere buyers and sellers can meet forfulfillment of their individual needs.

Financial markets are classified onthe basis of the maturity of financialinstruments traded in them.Instruments with a maturity of less

than one year are traded in the moneymarket. Instruments with longermaturity are traded in the capitalmarket.

MONEY MARKET

The money market is a market forshort term funds which deals inmonetary assets whose period ofmaturity is upto one year. These assetsare close substitutes for money. It is amarket where low risk, unsecuredand short term debt instruments thatare highly liquid are issued andactively traded everyday. It has nophysical location, but is an activityconducted over the telephone andthrough the internet. It enables theraising of short-term funds for meetingthe temporary shortages of cash andobligations and the temporarydeployment of excess funds for earningreturns. The major participants in themarket are the Reserve Bank of India

Classification of Financial Markets

FINANCIAL MARKET

MONEY MARKET CAPITAL MARKET

Primary market Secondary Market

Debt Equity Debt Equity

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(RBI), Commercial Banks, Non-Banking Finance Companies, StateGovernments, Large Corporate Housesand Mutual Funds.

MONEY MARKET INSTRUMENTS

1. Treasury Bill: A Treasury bill isbasically an instrument of short-termborrowing by the Government of Indiamaturing in less than one year. Theyare also known as Zero Coupon Bondsissued by the Reserve Bank of India onbehalf of the Central Government tomeet its short-term requirement offunds. Treasury bills are issued in theform of a promissory note. They arehighly liquid and have assured yieldand negligible risk of default. They areissued at a price which is lower thantheir face value and repaid at par. Thedifference between the price at whichthe treasury bills are issued and theirredemption value is the interestreceivable on them and is calleddiscount. Treasury bills are availablefor a minimum amount of Rs 25,000and in multiples thereof.

Example: Suppose an investorpurchases a 91 days Treasury bill witha face value of Rs. 1,00,000 forRs. 96,000. By holding the bill until thematurity date, the investor receivesRs. 1,00,000. The difference ofRs. 4,000 between the proceedsreceived at maturity and the amountpaid to purchase the bill represents theinterest received by him.

2. Commercial Paper: Commercialpaper is a short-term unsecuredpromissory note, negotiable and

transferable by endorsement anddelivery with a fixed maturity period. Itis issued by large and creditworthycompanies to raise short-term funds atlower rates of interest than market rates.It usually has a maturity period of 15days to one year. The issuance ofcommercial paper is an alternative tobank borrowing for large companiesthat are generally considered to befinancially strong. It is sold at a discountand redeemed at par. The originalpurpose of commercial paper was toprovide short-terms funds for seasonaland working capital needs. For examplecompanies use this instrument forpurposes such as bridge financing.

Example: Suppose a company needslong-term finance to buy somemachinery. In order to raise the longterm funds in the capital market thecompany will have to incur floatationcosts (costs associated with floating ofan issue are brokerage, commission,printing of applications and advertisingetc.). Funds raised through commercialpaper are used to meet the floatationcosts. This is known as Bridge Financing.

3. Call Money: Call money is shortterm finance repayable on demand, witha maturity period of one day to fifteendays, used for inter-bank transactions.Commercial banks have to maintain aminimum cash balance known as cashreserve ratio. The Reserve Bank of Indiachanges the cash reserve ratio from timeto time which in turn affects the amountof funds available to be given as loansby commercial banks. Call money is amethod by which banks borrow fromeach other to be able to maintain the

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cash reserve ratio. The interest rate paidon call money loans is known as the callrate. It is a highly volatile rate that variesfrom day-to-day and sometimes evenfrom hour-to-hour. There is an inverserelationship between call rates andother short-term money marketinstruments such as certificates ofdeposit and commercial paper. A rise incall money rates makes other sourcesof finance such as commercial paperand certificates of deposit cheaper incomparison for banks raise funds fromthese sources.

4. Certificate of Deposit: Certificatesof deposit (CD) are unsecured,negotiable, short-term instruments inbearer form, issued by commercialbanks and development financialinstitutions. They can be issued toindividuals, corporations andcompanies during periods of tightliquidity when the deposit growth ofbanks is slow but the demand for

credit is high. They help to mobilise alarge amount of money for shortperiods.

5. Commercial Bill: A commercialbill is a bill of exchange used to financethe working capital requirements ofbusiness firms. It is a short-term,negotiable, self-liquidating instrumentwhich is used to finance the credit salesof firms. When goods are sold on credit,the buyer becomes liable to makepayment on a specific date in future.The seller could wait till the specifieddate or make use of a bill of exchange.The seller (drawer) of the goods drawsthe bill and the buyer (drawee) acceptsit. On being accepted, the bill becomesa marketable instrument and is calleda trade bill. These bills can bediscounted with a bank if the sellerneeds funds before the bill matures.When a trade bill is accepted by acommercial bank it is known as acommercial bill.

Sterlite Industries

Sterlite Industries, part of the London listed Vedanta Resources Group, isscheduled to be listed on the New York Stock Exchange through an initialpublic offering (IPO) of about $2 billion. The proceeds will be used to fund its$1.9 billion, Greenfield power project in Orissa and to expand its aluminiumand copper facilities.

The IPO is a part of an enabling resolution passed by Sterlite to raise upto12,500 crores through American Depository Shares (ADS). Consequently, thecompany has increased its authorised capital from Rs 150 crore toRs 185 crore by creating an additional 17.5 crore equity shares of Rs 2 each.The shares of Sterlite, which will be among the first metal firms from India tolist on NYSE, outpaced Sensex and rose by 1.4% to close at Rs 545.2 on BSEon the day of the announcement.

Source: The Economic Times

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CAPITAL MARKET

The term capital market refers tofacilities and institutional arrangementsthrough which long-term funds, bothdebt and equity are raised and invested.It consists of a series of channelsthrough which savings of thecommunity are made available forindustrial and commercial enterprisesand for the public in general. It directsthese savings into their most productiveuse leading to growth and developmentof the economy. The capital marketconsists of development banks,commercial banks and stockexchanges.

An ideal capital market is one wherefinance is available at reasonable cost.The process of economic developmentis facilitated by the existence of a wellfunctioning capital market. In fact,development of the financial system isseen as a necessary condition foreconomic growth. It is essential thatfinancial institutions are sufficientlydeveloped and that market operationsare free, fair, competitive andtransparent. The capital market shouldalso be efficient in respect of theinformation that it delivers, minimisetransaction costs and allocate capitalmost productively.

The Capital Market can be dividedinto two parts: a. Primary Marketb. Secondary Market

PRIMARY MARKET

The primary market is also known asthe new issues market. It deals with

new securities being issued for the firsttime. The essential function of a primarymarket is to facilitate the transfer ofinvestible funds from savers toentrepreneurs seeking to establish newenterprises or to expand existing onesthrough the issue of securities for thefirst time. The investors in this marketare banks, financial institutions,insurance companies, mutual fundsand individuals.

A company can raise capitalthrough the primary market in the formof equity shares, preference shares,debentures, loans and deposits. Fundsraised may be for setting up newprojects, expansion, diversification,modernisation of existing projects,mergers and takeovers etc.

Methods of Floatation

There are various methods of floatingnew issues in the primary market :

1. Offer through Prospectus: Offerthrough prospectus is the mostpopular method of raising funds bypublic companies in the primarymarket. This involves invitingsubscription from the public throughissue of prospectus. A prospectusmakes a direct appeal to investors toraise capital, through an advertisementin newspapers and magazines. Theissues may be underwritten and alsoare required to be listed on at least onestock exchange. The contents of theprospectus have to be in accordancewith the provisions of the CompaniesAct and SEBI disclosure and investorprotection guidelines.

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2. Offer for Sale: Under this methodsecurities are not issued directly to thepublic but are offered for sale throughintermediaries like issuing houses orstock brokers. In this case, a companysells securities enbloc at an agreed priceto brokers who, in turn, resell them tothe investing public.

3. Private Placement: Privateplacement is the allotment of securitiesby a company to institutional investorsand some selected individuals. It helpsto raise capital more quickly than a publicissue. Access to the primary market can beexpensive on account of various mandatoryand non-mandatory expenses. Somecompanies, therefore, cannot afford a publicissue and choose to use private placement.

4. Rights Issue: This is a privilege givento existing shareholders to subscribe toa new issue of shares according to theterms and conditions of the company.The shareholders are offered the ‘right’to buy new shares in proportion to thenumber of shares they already possess.

5. e-IPOs: A company proposing toissue capital to the public through theon-line system of the stock exchangehas to enter into an agreement with thestock exchange. This is called an InitialPublic Offer (IPO). SEBI registeredbrokers have to be appointed for thepurpose of accepting applications andplacing orders with the company. Theissuer company should also appoint aregistrar to the issue having electronicconnectivity with the exchange. Theissuer company can apply for listing ofits securities on any exchange otherthan the exchange through which it has

offered its securities. The lead managercoordinates all the activities amongstintermediaries connected with the issue.

SECONDARY MARKET

The secondary market is also knownas the stock market or stock exchange.It is a market for the purchase and saleof existing securities. It helps existinginvestors to disinvest and freshinvestors to enter the market. It alsoprovides liquidity and marketability toexisting securities. It also contributesto economic growth by channelisingfunds towards the most productiveinvestments through the process ofdisinvestment and reinvestment.Securities are traded, cleared andsettled within the regulatory frameworkprescribed by SEBI. Advances ininformation technology have madetrading through stock exchangesaccessible from anywhere in thecountry through trading terminals.Along with the growth of the primarymarket in the country, the secondarymarket has also grown significantlyduring the last ten years.

Distinction between Capital Marketand Money Market

Both the money market and the capitalmarket are the centres which arrangefor the transfer of funds from thesuppliers of funds to the users of funds.They differ, however, in regard to thematurity periods of the financial assetscreated and dealt with for affecting thetransfer of funds. As explained earlier,money market arranges for short term

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and capital market provides formedium to long-term funds. The timelength in respect of short-term fundsis less than and upto one year.

STOCK EXCHANGE

A stock exchange is an institution whichprovides a platform for buying and sellingof existing securities. As a market, thestock exchange facilitates the exchangeof a security (share, debenture etc.) intomoney and vice versa. Stock exchangeshelp companies raise finance, provideliquidity and safety of investment to theinvestors and enhance the creditworthiness of individual companies.

Meaning of Stock Exchange

According to Securities Contracts(Regulation) Act 1956, stock exchangemeans any body of individuals,whether incorporated or not,constituted for the purpose of assisting,regulating or controlling the businessof buying and selling or dealing insecurities.

Functions of a Stock Exchange

The efficient functioning of a stockexchange creates a conducive climatefor an active and growing primarymarket for new issues. An active andhealthy secondary market in existing

Bombay Stock Exchange

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securities leads to positive environmentamong investors. The following aresome of the important functions of astock exchange.

1. Providing Liquidity and Market-ability to Existing Securities: Thebasic function of a stock exchange is thecreation of a continuous market wheresecurities are bought and sold. It givesinvestors the chance to disinvest andreinvest. This provides both liquidity andeasy marketability to already existingsecurities in the market.

2. Pricing of Securities: Share priceson a stock exchange are determined bythe forces of demand and supply. Astock exchange is a mechanism ofconstant valuation through which theprices of securities are determined.Such a valuation provides importantinstant information to both buyers andsellers in the market.

3. Safety of Transaction: Themembership of a stock exchange is well-regulated and its dealings are welldefined according to the existing legalframework. This ensures that theinvesting public gets a safe and fair dealon the market.

4. Contributes to Economic Growth:A stock exchange is a market in whichexisting securities are resold or traded.Through this process of disinvestmentand reinvestment savings getchannelised into their most productiveinvestment avenues. This leads tocapital formation and economicgrowth.

5. Spreading of Equity Cult: Thestock exchange can play a vital role inensuring wider share ownership byregulating new issues, better tradingpractices and taking effective steps ineducating the public about investments.

History of the Stock Market in India

The history of the stock market in India goes back to the end of the eighteenthcentury when long-term negotiable securities were first issued. In 1850 theCompanies Act was introduced for the first time bringing with it the feature oflimited liability and generating investor interest in corporate securities. Thefirst stock exchange in India was set-up in 1875 as The Native Share andStock Brokers Association in Bombay. Today it is known as the Bombay StockExchange (BSE). This was followed by the development of exchanges inAhmedabad (1894), Calcutta(1908) and Madras(1937). It is interesting to notethat stock exchanges were first set up in major centers of trade and commerce.

Until the early 1990s, the Indian secondary market comprised regionalstock exchanges with BSE heading the list. After the reforms of 1991, theIndian secondary market acquired a three tier form. This consists of:• Regional Stock Exchanges

• National Stock Exchange (NSE)

• Over the Counter Exchange of India (OTCEI)

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6. Providing Scope for Speculation:The stock exchange provides sufficientscope within the provisions of law forspeculative activity in a restricted andcontrolled manner. It is generallyaccepted that a certain degree of healthyspeculation is necessary to ensureliquidity and price continuity in thestock market.

TRADING PROCEDURE ON A STOCK

EXCHANGE

Till a few years ago trading on a stockexchange took place through a publicoutcry or auction system. This hasbeen replaced by an online screenbased electronic trading system asalmost all exchanges have becomeelectronic. Trading has, therefore,

shifted from the stock market floor tothe brokers’ office where trades areexecuted through a computer. Brokersare members of a stock exchangethrough whom trading of securities isdone. Brokers may be individuals,partnership firms or corporate bodies.They are the intermediaries betweenthe buyers and sellers. Earlier thesemembers owned, controlled andmanaged the exchanges. The ownershipand management of stock exchangesby brokers often led to a conflict ofinterest between the brokers and theirclients. This led to ‘demutualisation’ ofstock exchanges. Demutualisationseparates the ownership and control ofstock exchanges from the trading rightsof members. This reduces the conflict ofinterest between the exchange and the

Electronic Trading System

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brokers and the chances of brokers usingstock exchanges for personal gains.

A company’s securities can betraded on a stock exchange only if theyare listed or quoted on it. Companieshave to fulfill a stringent set ofrequirements to get their securitieslisted on a stock exchange. Thisensures that the interest of theshareholders is adequately looked after.Transactions on a stock exchange maybe carried out on either cash basis or acarry over basis. The carry over basisis also called badla and is a uniquefeature of Indian stock markets,particularly the BSE. A stock exchangeyear is divided into periods called‘accounts’ which vary from a fortnightto a month. All transactions madeduring one account are to be settledby payment for purchases and bydelivery of share certificates in the case

of sales on notified days of the clearingprogramme of a given stock exchange.

A share certificate is proof ofownership of securities by an individual.Purchase and sale transactions insecurities involved the exchange ofmoney in return for the share certificate.This led to problems of theft, forgery,transfer delays and time involved inpaperwork. To eliminate these problemsan electronic book entry form of holdingand transferring securities has beenintroduced. This is referred to as‘dematerialisation of securities’.

NATIONAL STOCK EXCHANGE OF INDIA

(NSE)

The National Stock Exchange is thelatest, most modern and technologydriven exchange. It was incorporatedin 1992 and was recognised as a stock

Stock Market Index

A stock market index is a barometer of market behaviour. It measures overallmarket sentiment through a set of stocks that are representative of the market.It reflects market direction and indicates day-to-day fluctuations in stockprices. An ideal index must represent changes in the prices of securities andreflect price movements of typical shares for better market representation. Inthe Indian markets the BSE, SENSEX and NSE, NIFTY are important indices.Some important global stock market indices are:• Dow Jones Industrial Average is among the oldest quoted stock market

index in the US.

• NASDAQ Composite Index is the market capitalisation weightages of pricesfor stocks listed in the NASDAQ stock market.

• S and P 500 Index is made up of 500 biggest publicly traded companies inthe US. The S and P 500 is often treated as a proxy for the US stock market.

• FTSE 100 consists of the largest 100 companies by full market value listedon the London Stock Exchange. The FTSE 100 is the benchmark index ofthe European market.

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exchange in April 1993. It startedoperations in 1994, with trading on thewholesale debt market segment.Subsequently, it launched the capitalmarket segment in November 1994 asa trading platform for equities andthe futures and options segment inJune 2000 for various derivativeinstruments. NSE has set up anationwide fully automated screenbased trading system.

The NSE was setup by leadingfinancial institutions, banks, insurancecompanies and other financialintermediaries. It is managed byprofessionals, who do not directly orindirectly trade on the exchange. Thetrading rights are with the tradingmembers who offer their services to theinvestors. The board of NSE comprisesof senior executives from promoterinstitutions and eminent professionals,without having any representation fromtrading members.

OBJECTIVES OF NSE

NSE was set up with the followingobjectives:a. Establishing a nationwide trading

facility for all types of securities.

b. Ensuring equal access to investors allover the country through anappropriate communication network.

c. Providing a fair, efficient andtransparent securities marketusing electronic trading system.

d. Enabling shorter settlement cyclesand book entry settlements.

e. Meeting international benchmarksand standards.

Within a span of ten years, NSE hasbeen able to achieve its objectives forwhich it was set up. It has been playinga leading role as a change agent intransforming the Indian capital market.NSE has been able to take the stockmarket to the door step of the investors.

Some Common Stock Market Terms

You would have often come across the following terms in magazines ornewspapers when you read about the stock market.

BOURSES is another word for the stock market

BULLS and BEARS – The term does not refer to animals but to marketsentiment of the investors. A Bullish phase refers to a period of optimism anda Bearish phase to a period of perssimism on the Bourses.

BADLA – This refers to a carry forward system of settlement, particularly atthe BSE. It is a facility that allows the postponement of the delivery or paymentof a transaction from one settlement period to another.

ODD LOT TRADING – Trading in multiples of 100 stocks or less.

PENNY STOCKS – These are securities that have no value on the stockexchange but whose trading contributes to speculation.

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It has ensured that technology hasbeen harnessed to deliver the servicesto the investors across the country atthe lowest cost. It has provided a nationwide screen based automated tradingsystem with a high degree oftransparency and equal access toinvestors irrespective of geographicallocation.

MARKET SEGMENTS OF NSE

The Exchange provides trading in thefollowing two segments.

(i) Whole Sale Debt Market Segment:This segment provides a tradingplatform for a wide range of fixedincome securities that includecentral government securities,treasury bills, state developmentloans, bonds issued by public

sector undertakings, floating ratebonds, zero coupon bonds, indexbonds, commercial paper, certificateof deposit, corporate debenturesand mutual funds.

(ii) Capital Market Segment: Thecapital market segment of NSEprovides an efficient and transparentplatform for trading in equity,preference, debentures, exchangetraded funds as well as retailGovernment securities.

OVER THE COUNTER EXCHANGE OF INDIA

(OTCEI)

The OTCEI is a company incorporatedunder the Companies Act 1956. It wasset-up to provide small and mediumcompanies an access to the capitalmarket for raising finance in a cost

SENSEX — The Bombay Stock Exchange Sensitive Index

Have you counted the number of times newspaper headlines in the past fewweeks have been screaming about the SENSEX? It goes up and down all thetime and seems to be a very important part of business and economic news. Hasthat made you wonder what the SENSEX actually is?

The SENSEX is the benchmark index of the BSE. Since the BSE has been theleading exchange of the Indian secondary market, the SENSEX has been animportant indicator of the Indian stock market. It is the most frequently usedindicator while reporting on the state of the market. An index has just one job: tocapture the price movement. So a stock index will reflect the price movements ofshares while a bond index captures the manner in which bond prices go up ordown. If the SENSEX rises, it indicates the market is doing well. Since stocks aresupposed to reflect what companies expect to earn in the future, a rising indexindicates that investors expect better earnings from companies. It is also a measureof the state of the Indian economy. If Indian companies are expected to do well,obviously the economy should do well too.

The SENSEX, launched in 1986 is made up of 30 of the most actively tradedstocks in the market. In fact, they account for half the BSE’s market capitalisation.They represent 13 sectors of the economy and are leaders in their respectiveindustries.

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effective manner. It was also meant toprovide investors with a convenient,transparent and efficient avenue forcapital market investment. It is fullycomputerised, transparent, singlewindow exchange ‘which commencedtrading in 1992. This exchange isestablished on the lines of NASDAQ(National Association of SecuritiesDealers Automated Quotations) theOTC exchange in USA. It has beenpromoted by UTI, ICICI, IDBI, IFCI, LIC,GIC, SBI Capital markets and CanBank Financial Services.

Over the counter market may bedefined as a place where buyers seeksellers and vice-versa and then attemptto arrange terms and conditions forpurchase/sale acceptable to both theparties. It is a negotiated market placethat exists any where as opposed to theauction market place, represented bythe activity on securities exchanges.Thus, in the OTC exchange, tradingtakes place when a buyer or sellerwalks up to an OTCEI counter, tapson the computer screen, finds quotesand effects a purchase or saledepending on whether the prices meettheir targets. There is no particularmarket place in the geographicalsense. The objectives of OTCEI are toprovide quicker liquidity to securitiesat a fixed and fair price, liquidity forless traded securities or that of smallcompanies, a simplified process ofbuying and selling and easy andcheaper means of making public saleof new issues.

Advantages of OTC Market

1. It provides a trading platform tosmaller and less liquid companiesas they are not eligible for listingon a regular exchange.

2. It is a cost effective method forcorporates as there is a lower costof new issues and lower expensesof servicing the investors.

3. Family concerns and closely heldcompanies can go public throughOTC.

4. Dealers can operate both in newissues and secondary market attheir option.

5. It gives greater freedom of choiceto investors to choose stocks bydealers for market making in bothprimary and secondary markets.

6. It is a transparent system of tradingwith no problem of bad or shortdeliveries.

7. Information flows are free and moredirect from market makers tocustomers since there is closecontact between them.

SECURITIES AND EXCHANGE BOARD OF

INDIA (SEBI)

The Securities and Exchange Boardof India was established by theGovernment of India on 12 April 1988as an interim administrative body topromote orderly and healthy growthof securities market and for investorprotection. It was to function under

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the overall administrative control ofthe Ministry of Finance of theGovernment of India. The SEBI wasgiven a statutory status on 30January 1992 through an ordinance.The ordinance was later replaced byan Act of Parliament known as theSecurities and Exchange Board ofIndia Act, 1992.

Reasons for the Establishment ofSEBI

The capital market has witnessed atremendous growth during 1980’s,characterised particularly by theincreasing participation of thepublic. This ever expandinginvestors population and marketcapitalisation led to a variety ofmalpract ices on the part ofcompanies, brokers, merchantbankers, investment consultants andothers involved in the securitiesmarket. The glaring examples ofthese malpractices include existenceof self – styled merchant bankersunofficial private placements, riggingof prices, unofficial premium on newissues, non-adherence of provisionsof the Companies Act, violation ofrules and regulations of stockexchanges and listing requirements,delay in delivery of shares etc. Thesemalpractices and unfair tradingpractices have eroded investorconfidence and multiplied investorgrievances. The Government and thestock exchanges were rather helplessin redressing the investor’s problemsbecause of lack of proper penalprovisions in the existing legislation.

In view of the above, the Governmentof India decided to set-up a separateregulatory body known as Securitiesand Exchange Board of India.

Purpose and Role of SEBI

The basic purpose of SEBI is to createan environment to facilitate efficientmobilisation and allocation ofresources through the securitiesmarkets. It also aims to stimulatecompetition and encourage innovation.This environment includes rules andregulations, institutions and theirinterrelationships, instruments,practices, infrastructure and policyframework.

This environment aims at meetingthe needs of the three groups whichbasically constitute the market, viz,the issuers of securities (Companies),the investors and the marketintermediaries.

• To the issuers, it aims to provide amarket place in which they canconfidently look forward to raisingfinances they need in an easy, fairand efficient manner.

• To the investors, it should provideprotection of their rights andinterests through adequate,accurate and authentic informationand disclosure of information on acontinuous basis.

• To the intermediaries, it shouldoffer a competitive, professionalisedand expanding market withadequate and efficient infrastructureso that they are able to renderbetter service to the investors andissuers.

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Objectives of SEBI

The overall objective of SEBI is toprotect the interests of investors and topromote the development of, andregulate the securities market. Thismay be elaborated as follows:1. To regulate stock exchanges and

the securities industry to promotetheir orderly functioning.

2. To protect the rights and interestsof investors, particularly individualinvestors and to guide and educatethem.

3. To prevent trading malpracticesand achieve a balance between selfregulation by the securities industryand its statutory regulation.

4. To regulate and develop a code ofconduct and fair practices byintermediaries like brokers,merchant bankers etc., with a viewto making them competitive andprofessional.

Functions of SEBI

Keeping in mind the emerging natureof the securities market in India, SEBIwas entrusted with the twin task ofboth regulation and development of thesecurities market.

Regulatory Functions

1. Registration of brokers and sub-brokers and other players in themarket.

2. Registration of collective investmentschemes and Mutual Funds.

3. Regulation of Stock Bankers andportfolio exchanges, and merchantbankers.

4. Prohibition of fraudulent andunfair trade practices.

5. Controlling insider trading andtakeover bids and imposingpenalties for such practices.

6. Calling for information byundertaking inspection, conductingenquiries and audits of stockexchanges and intermediaries.

7. Levying fee or other charges forcarrying out the purposes of the Act.

8. Performing and exercising suchpower under Securities Contracts(Regulation) Act 1956, as may bedelegated by the Government ofIndia.

Development Functions

1. Investor education

2. Training of intermediaries

3. Promotion of fair practices andcode of conduct of all SRO’s.

4. Conducting research and publishinginformation useful to all marketparticipants.

The Organisation Structure of SEBI

As SEBI is a statutory body there hasbeen a considerable expansion in therange and scope of its activities. Each ofthe activities of the SEBI now demandsmore careful, closer, co-ordinated andintensive attention to enable it to attainits objectives. Accordingly, SEBI hasbeen restructured and rationalised intune with its expanded scope. It hasdecided its activities into five operationaldepartments. Each department isheaded by an executive director. Apartfrom its head office at Mumbai, SEBI has

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opened regional offices in Kolkalta,Chennai, and Delhi to attend to investorcomplaints and liaise with the issuers,intermediaries and stock exchanges inthe concerned region.

The SEBI also formed two advisorycommittees. They are the PrimaryMarket Advisory Committee and theSecondary Market Advisory Committee.These committees consist of the marketplayers, the investors associations

recognised by the SEBI and theeminent persons in the capital market.They provide important inputs to theSEBI’S policies.

The objectives of the twoCommittees are as follows:a. To advise SEBI on matters relating

to the regulation of intermediariesfor ensuring investors protection inthe primary market.

b. To advise SEBI on issues related tothe development of primary marketin India.

c. To advise SEBI on disclosurerequirements for companies.

d. To advise for changes in legalframework to introduce simplificationand transparency in the primarymarket.

e. To advice the board in mattersrelating to the development and

regulation of the secondary marketin the country.The committees are however non-

statutory in nature and the SEBI is notbound by the advise of the committee.These committees are a part of SEBI’sconstant endeavor to obtain a feedbackfrom the market players on variousissues relating to the regulations anddevelopment of the market.

SEBI Violations

SEBI on Thursday unearthed yet another abuse of IPO norms in the IDFC’sInitial Public Offering (IPO) where a few investors opened over 14,000dematerialised accounts to corner large number of shares of the company.

This is the second such incident, after a similar such violations weredetected in the YES Bank’s IPO.

SEBI said in IDFC’s IPO too four investors opened as many as 14,807dematerialised accounts with Karvy-DP and ‘Strangely’, all these accountholders have their bank accounts with Bharat Overseas Bank Ltd.,Ahmedabad.

SEBI order said: “Further probe is required for examining the systemicfault, if any, of the registrar Karvy-RTI, i.e., Karvy Computer Shares P Ltd.,and the lead managers Kotak Mahindra Capital Company Ltd., DSP MerrillLynch Ltd. and SBI Capital Markets Ltd. in identifying and weeding out thebenami applications.”Reference is being made to the RBI to examine the role of BOB, HDFC Bank,Indian Overseas Bank, ING Vysya Bank and Vijaya Bank in opening thebank accounts of these benami entities and apparently funding them.

Source: The Economic Times

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KEY TERMS

Financial Market Money Market Treasury Bills

Commercial Paper Call Money Certificate of DepositCommercial Bill Money Market Mutual Fund CapitalMarket Primary Market Secondary MarketStock Exchange SEBI, NSE OTCEI

SUMMARY

Financial Market is a market for creation and exchange of financial assets. Ithelps in mobilisation and channelising the savings into most productive uses.Financial markets also helps in price discovery and provide liquidity tofinancial assets.

Money Market is a market for short-term funds. It deals in monetory assetswhose period of maturity is less than one year. The instruments of moneymarket includes treasury bills, commercial paper, call money, REPO’s,Certificate of deposit, commercial bills, participation certificates and moneymarket mutual funds.

Capital Market is a place where long-term funds are mobilised by the corporateundertakings and Government. Capital Market may be devided into primarymarket and secondary market. Primary market deals with new securities whichwere not previously tradable to the public. Secondary market is a place whereexisting securities are bought and sold.

Stock Exchanges are the organisations which provide a platform for buyingand selling of existing securities. Stock exchanges provide continuous marketfor securities, helps in price discovery, widening shareownership and providescope for speculation.

The National Stock Exchange of India is the latest, most modern and technologydriven exchange and was incorporated in 1992. OTCEI was incorporated in1992 to provide listing facility for small companies with paid up capital of lessthan 3 crores.

Securities and Exchange Board of India was established in 1988 and wasgiven statutory status through an Act in 1992. The SEBI was set-up to protectthe interests of investors, development and regulation of securities market.

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EXERCISES

Multiple choice questions

1. Primary and Secondary Marketsa. Compete with each otherb. Complement each otherc. Function Independentlyd. Control each other

2. Total number of Stock Exchanges in India area. 20 b. 21 c. 22 d. 23

3. The settlement cycle in NSE is

a. T + 5 b. T + 3 c. T + 2 d. T+1

4. National Stock Exchange of India was recognized as stock exchange in the year.a. 1992 b. 1993 c. 1994 d. 1995

5. NSE commenced futures trading in the yeara. 1999 b. 2000 c. 2001 d. 2002

6. Clearing and settlement operations of NSE is carried out bya. NSDL b. NSCCL c. SBI d. CDSL

7. OTCEI was started on the lines ofa. NASDAQ b. NYSE c. NASAQ d. NSE

8. To be listed on OTCEI, the minimum capital requirement for a company isa. Rs. 5 Croresb. Rs. 3 Crores c. Rs. 6 Crores d. Rs. 1 Crores

9. Treasury Bills are basicallya. An instrument to borrow short term fundsb. An instrument to borrow long term fundsc. An instrument of capital marketd. None of the above

10.REPO isa. Repurchase agreement b. Reliance Petroleumc. Read and Process d. None of the above

Short answer questions

1. What are the functions of financial markets?2. “Money Market is essentially Market for short term funds” Discuss.3. What is Treasury Bill ?

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4. What is REPO and Reverse REPO?5. Distinguish between Capital Market and Money Market.6. What are the functions of Stock Exchange?7. What are the objectives of SEBI?8. What are the objectives of NSE?9. What is OTCEI?

Long answer questions

1. Explain the various Money Market Instruments.2. What are the methods of floatation in Primary Market.3. Explain the Capital Market reforms in India.4. Explain the objectives and functions of SEBI5. Explain the various segments of NSE.

Projects and Assignments

1. Collect the information about the companies that have mobilised resourcesthrough primay market.

2. Collect the information on various measures taken by SEBI to protect theinterests of investors since its inception.

Try and Solve this Crossword

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3. Send a group of students to a trading terminal in your city to gain first handinformation on securities trading and prepare a report.

4. Collect data about the movements in SENSEX and NIFTY puring the lastone month. Find out whether the two move in same or opposite direction.

5. Collect information about SEBI action for Investor Protection taken duringlast two years.

6. Collect information about e-IPO’s in the Indian Market in the last one year.

Clues to the Crossword

Across1. Commission Agent who transacts in securities on behalf of non members

or members (6).

2. Changes in the price of securities in the stock market. (12)

3. Inclusion of securities in the official trade list of securities in stock market (7)

4. Place of trade I securities (6)

5. Result of selling shares at a price lower than the purchase price. (4)

6. An independent dealer in securities (6)

7. Includes shares, scripts, bonds, debentures (10)

8. Speculator who expects the prices to go down (4)

9. Buying and selling of securities to manipulate the market (7)

10. Speculator who deals in new securities only (4)

Down1. Speculator expecting a rise in the prices (4)

2. Means ‘with’ (3)

3. Means a part or fraction of capital (6)

4. Fraction of profit paid to government (3)

5. Illegal, game based on chance (8)

6. Official statement of securities in the stock market (5)

7. Those who buy and sell securities with objective of profit (10)

8. Money invested in business (7)

9. Return on shares out of profits (8)

10. Instrument acknowledging a debt (9)

11. Govt. document acknowledging a debt (5)

12. Profit or yield (4)

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Case Problem I

‘R’ Limited is a real estate company which was formed in 1950. In about 56years of its existence the company has managed to carve out a niche for itself inthis sector. Lately, this sector is witnessing a boom due to the fact that the Indianeconomy is on the rise. The incomes of middle class are rising. More people canafford to buy homes for themselves due to easy availability of loans andaccompanying tax concessions.

To expand its business in India and abroad the company is weighing variousoptions to raise money through equity offerings in India. Whether to tap equity ordebt. market whether to raise money from domestic market or international marketor Combination of both? Whe their to raise the necessary financé from moneymarket or capital market. It is also planning to list itself in New York Stock Exchangeto raise money through ADR’s. To make its offerings attractive it is planning tooffer host of financial plans products to its stakeholders and investors and alsoexpand it’s listing at NSE after complying with the regulations of SEBI.(i) What benefits will the company derive from listing at NSE?(ii) What are the regulations of SEBI that the company must comply with?(iii) How does the SEBI exercise control over ‘R’ Limited in the interest of

investors?

Case Problem IINSE Indices World Markets

Index Current Prev. %CHG Index Current Prev. % Change

S&P CNX Nifty 3641.1 3770.55 -3.43% NYSE Composite 8926.88 9120.93 -2.13%

CNX Nifty Junior 6458.55 6634.85 -2.66% NASDAQ Composite 2350.57 2402.29 -2.15%

CNX IT 5100.5 5314.05 -4.02% DOW Jones I. A. 12076 12318.6 -1.97%

Bank Nifty 5039.05 5251.55 -4.05% S&P 500 1377.95 1406.6 -2.04%

CNX 100 3519.35 3640.35 -3.32% Nikkei 225 16676.9 17178.8 -2.92%

More

Source: www.nseindia.com

The above figures are taken from the website of national stock exchange ofIndia. They illustrate the movement of NSE stock indices as well as world stockindices on the date indicated.

Questions

1. What do you mean by a stock index? How is it calculated?

2. What conclusions can you draw from the various movements of NSE stockindices?

3. What factors affect the movement of stock indices? Elaborate on the natureof these factors.

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4. What relationship do you see between the movement of indices in worldmarkets and NSE indices?

5. Give details of all the indices mentioned above. You can find information onthe web or business magazines.

(The teacher should help the students in answering these questions. Theycan look at the website mentioned above and also website of SEBI, i.e.,www.sebi.gov.in for educational material. This exercise will help the studentsin understanding the stock markets clearly and also create interest therein.)

Project Work

1. Study the wwebsite of Mumbai Stock Exchange, i.e., www.bseindia.com andcompile information which you find useful. Discuss it in your class and findout how it can help you should you decide to invest in the stock market.Prepare a report on your findings with the help of your teacher.

2. Prepare a report on the role of SEBI in regulating the Indian stock market.You can get this information on its website namely www.sebi.gov.in. Do youthink something else should be done to increase the number of investors inthe stock market?

Answers to the Crossword

Across 1. Broker 2. Fluctuations 4. Listing 8. Market 9. Loss

13. Jobber 15. Securities 16. Bear 17. Rigging 18. Stag

Down 1. Bull 3. Cum 5. Stocks 6. Tax 7. Gambling

9. Lists 10. Speculator 11. Capital 12. Dividend 14. Debenture

16. Bonds 19. Gain