Friday, December 26, 2014

AHSEC - 12: Financial Markets Important Notes for Feb' 2017 Exam

Unit – X: Financial Markets
OBJECTIVE QUESTIONS (1 mark)
1. What is a financial market? Mention its components.
Ans: It refers to the market which creates and exchanges financial assets. It is divided into two parts: Money market and capital market.
2. What are financial assets?
Ans: It refers to the financial instruments or securities. For e.g. shares, debentures, treasury bills, commercial paper etc.
3. What is floatation cost?
Ans: The expenditure incurred in issuing the securities is called floatation cost.
4. What is a zero coupon bond?
Ans: It is a financial instrument for which no interest is paid but is issued at a discount redeemable at par.
5. State the components of capital market?
Ans: a) Primary market b) secondary market.
6. Name two buyers of Commercial paper.
Ans: a) Banks b) Insurance companies.
7. What is meant by “Near Money?”
Ans: All very short term securities are called near money for e.g. marketable securities.
8. What type of trade-off function is performed by the money market?

Ans: The money market establishes a balance between short term financial supply and short term financial demand.
9. Name the instruments that are traded in money market.                        2013
Ans: Call money, Commercial Papers, Certificates of deposits, Bills of exchange.
10. Name the instruments that are traded in capital market.
Ans: Stocks, Shares, Debentures, Bonds, GDR (Global Depository receipts)
11. Name the institutions operating in the money market.
Ans: Central Bank, Commercial banks, Non-bank financial institutions.
12. Name the institutions operating in the capital market.
Ans: IDBI, IFCI, ICICI, Stock exchanges.
13. In which year NSEI and BSE were established?                           2015
Ans: NSEI – In 1991 and BSE – In 1875. But, NSEI was recognized in 1992.
14. In which year OTCEI was established?
Ans: 1990
15. Write the full form of NSEI, BSE and OTCEI.
Ans: NSEI – National stock exchange of India (Nifty), BSE – Bombay Stock Exchange (Sensex), OTCEI – Over the Counter Exchange of India.
16. State two promoters of NSEI.
Ans: a) Industrial development bank of India (IDBI) b) Life insurance corporation of India (LIC)
17. How many stock exchanges are there in India?
Ans: There are 24 recognised stock exchanges in India. Whereas at national level there are two major stock exchange. These are: a) NSEI and b) OTCEI.
18. Name two advisory committees set up by SEBI.
Ans: a) Primary market Advisory committee. b) Secondary market advisory committee.
19. What is price rigging?
Ans: It refers to the manipulation of prices of the securities by agents/company for their own profits.
20. On what lines was OTCEI started?
Ans: It was started on the lines of NASDAQ (National Association of securities Dealers Automated Quotation)
21. Name the system where there is electronic book entry form of holding and transferring the securities.
Ans: Dematerialisation.
22. What is ‘Demutualisation of securities?’
Ans: It separates the ownership and control of stock exchanges from trading rights.
23. Name the Benchmark index of BSE.
Ans: SENSEX.
24. When was SEBI established?
Ans: It was established in 1988 but was given statutory status in 1992.
25. State the segments of NSEI.
Ans: a) Wholesale debt market b) Capital market segment
26. State one development function of SEBI
Ans: to carry out research work.
27. Capital Market is the market for long term funds and money market is the market for short term funds? T/F
Ans: Given statement is true.
28. What are various types of operators in stock exchange?
Ans: Brokers, jobbers, bulls, bears and stag.

SHORT ANSWER QUESTIONS (2/3 marks)
1. State five objectives of SEBI.  2012, 2014
Ans:       a) To regulate stock exchanges and the securities industry and to promote their orderly functioning.
b) To protect the rights and interests of the Investors.
c) To prevent unfair trade activities/ trading malpractices.
d) To regulate and develop a code of conduct for intermediaries such as brokers, agents etc.
e) To Regulate Mutual fund agencies and collective Investment schemes.
2. State three objectives of NSEI.
Ans:       a) To ensure equal access to investors all over the world.
b) To provide fair, efficient and transparent trading of the securities electronically.
c) To provide facilities of international standards.
3. State three advantages of OTCEI.
Ans:       a) To provide a trading platform to smaller and less liquid companies.
b) It is economical in nature as it involves low cost of new issue.
c) It is a transparent system of trading with no problems of bad deliveries.
d) it is suitable for family concerns and closely held companies.
4. State four features of Commercial paper.
Ans:       a) Commercial paper is debt instrument issued for a period of 15 days to one year
b) These are issued in the form of unsecured promissory note.
c) These are transferable by mere endorsement and delivery.
d) These are issued by large and creditworthy companies.
5. State three features of Treasury bills.
Ans:       a) Treasury bills are instruments of money market issued by the Government of India. They are freely transferable.
b) They are issued in the multiples of 25000.
c) These are in the form of Zero coupon bond that is issued at a discount redeemable at par. No interest is given on such securities.
6. State the common features of NSEI and OTCEI.
Ans: The common features of NSEI and OTCEI are:
a) Nationwide coverage
b) Screen based trading
c) Transparency in transactions
d) Incorporated entities backed by financial institutions.
7. Distinguish between Capital market and Money market.  2012, 2014
Ans: Difference between capital market and money market
Basis of  Distinction
Capital Market
Money Market
1)   Meaning
The market dealing in long-term funds is known as capital market.
The market dealing in short-term funds in known as money market.
2)   Constituents
These include new issue market, stock market, stock brokers and intermediaries.
These include call money market, bill market and discounting market.
3)   Participants
Individual and institutional investors operate in the capital market.
Only the institutional investors operate in the money market.
4)   Amount of funds
Capital market arranges large amount of funds.
Money market arranges comparatively small amount of funds.
5)   Instruments
The instruments in the capital market include shares debentures bonds etc.
Trade bills T-bills, certificate of deposits, commercial papers etc. are the instruments of money market.
6)   Period/ duration
The instruments of capital market are of long duration, i.e. more than one year.
The money market instruments are of short duration.
7)   Liquidity
The instruments of capital market always take time to convert into cash.
The instruments of money market have very high degree of liquidity.
8)   Safety
Investments may not be safe because of uncertainties.
Investment are safe as funds are invested in the instruments issued by commercial banks and highly rated companies.
9)      Regulation
Capital market is primarily regulated by the Securities and Exchange Board of India (SEBI)
Money market is regulated by the Reserve Bank of India (RBI)
10)   Expected return
The yield on investments is expected to be higher.
The yield on investments is comparatively lower.

LONG QUESTIONS (5/8 marks)
Q.N.1. What is financial market? What are its components? Mention its functions.                        2015
Ans: Meaning of Financial Market: A financial market is an institution that facilitates exchange of financial instruments including deposits, loans, corporate stocks, government bonds, etc.
According to Brigham "The place where people and organizations wanting to borrow money, are brought together, with those having surplus funds is called a financial market".
This definition makes it clear that a financial market is a place where those who need money and those who have surplus money are brought together. They may come together directly or indirectly. Financial market in India performs an important function of mobilization of savings and channelizing them into most productive uses.
Types of Financial Markets
The financial market consists of two major segments
a) Money market
b) Capital market
Role and Functions of financial market
a) It encourages savings and facilitates mobilization of savings by financial intermediaries.
b) It enhances the liquidity of financial assets by providing ready market.
c) It helps in the allocation of credit to productive investments.
d) It meets the various credit needs of the business houses.
e) It serves as intermediaries in the process of mobilization of savings in the economy.
Q.N.2. What is money market? Explain its nature and functions.
Ans: Money market is a market for short term funds meant for use for a period upto one year. Generally money market is the source of finance for working capital. Money market is not a fixed geographical area but it constitutes all organisations and institutions which deal with short term debts such as banks, RBI, mutual funds etc.
According to the RBI, "The money market is the centre for dealing mainly of short character, in monetary assets; it meets the short term requirements of borrowers and provides liquidity or cash to the lenders.”
Features of Money Market:                                                 2015
(a)    It is a collection of market for following instruments: Call money, notice money, repos, term money, treasury bills, commercial bills, certificate of deposits, commercial papers.
(b)   It is a market for short term funds.
(c)    It has no fixed geographical location.
(d)   It constitutes all organisations and institutions which deal with short term debts such as banks, RBI, mutual funds etc.
(e)   Activities in the money market tend to concentrate in some centre, which serves a region or an area.
Functions of Money Market
The major functions of money market are given below:
(a)    To maintain monetary equilibrium.
(b)    To promote economic growth.
(c)    To provide help to Trade and Industry.
(d)   To help in implementing Monetary Policy.
(e)   To help in Capital Formation.
(f)     Money market provides non-inflationary sources of finance to government.
Q.N.3. Explain the various Money market instruments.  2013, 2015
Ans: Money market is the short term security market. Following are the instruments dealt in money market.
a) Treasury bills: It is a short term borrowing by the Government of India. It is also called a zero coupon bond as no interest is paid on such bills but they are issued at a discount redeemable at par. These are issued by the RBI on behalf of government of India. They are issued in the form of promissory note.
b) Commercial Paper: These are unsecured promissory notes issued by highly creditworthy companies. These are negotiable instrument that can be transferred by mere delivery with a fixed maturity period. It usually has a maturity period of 15 days to one year. The purpose of commercial paper is to meet the short term needs.
c) Call money: It is short term finance repayable on demand, with a maturity period of one day to 15 days. It is required to meet the requirements of CRR determined by Reserve bank of India. Commercial banks require minimum balance to be kept with RBI as CRR. When the cash reserve ratio increases, banks fall short of reserve so the need for call money arises.
d) Certificate of deposit (CD): CD is unsecured negotiable short term instruments in the bearer form issued by the commercial banks and financial institutions. These can be issued to the individuals or corporations during periods of tight liquidity when the demand for credit is high.
e) Commercial bills: These are the trade bills issued to meet the working capital requirement. The trade bill issued by the Drawer (Supplier) and accepted by the Drawee (Debtor) can be discounted with the bank for meeting short term requirements. It is a negotiable instrument and can also be endorsed from one person to another.
Q.N.4. What is Capital Market? What are its components? Explain its importance.                          2016
Ans: Capital Market is generally understood as the market for Medium and long-term funds. This market supplies funds for financing the fixed capital requirement of trade and commerce as well as the long-term requirements of the Government. The medium and long-term funds are made available through various instruments such as debentures, preference shares, and common shares. The capital market can be local, regional, national, or international. The capital market is classified into two categories (Components), namely,                                                                                                                                                                                                                                                                                                                                                                                                                                  
(i)      Primary market or new issue market, and
(ii)    Secondary market or stock exchange.
Features of Indian Capital Market
a)      Dealing in Securities: It deals in long-term marketable securities and non-marketable securities.
b)      Segments: It included both primary and secondary market. Primary market is meant for issue of fresh shares and secondary market facilitates buying and selling of second hand securities.
c)       Investors: It includes both individual investors and institutional investors.
d)      Flow of capital: It facilitates flow of long term capital from those who have surplus capital to those who need capital.
e)      Intermediaries: It acts through intermediaries which includes bankers, brokers, underwriters etc.
Importance of Capital Market
a)      Availability of funds: Capital market helps to raise long term funds from domestic and foreign investors.
b)      Mobilization of savings: Capital market mobilizes the savings of individuals and institutions to productive channels.
c)      Industrial growth: It facilitates increase in production and productivity in the economy and hence enhances the economic welfare of the society.
d)     Liquidity: The industrial securities issued through the primary market are traded in the secondary market which provides liquidity and short-term as well as long-term yields.
e)      Balance between demand and supply: It bring about balance between demand and supply of capital by creating a link between those who demand capital and those who supply capital.
Q.N.5. What is primary and secondary market? State four differences between primary market and secondary market. 2013, 2014
Ans: Primary market which is also called new issue market (2016) represents a market where new securities i.e. shares and bonds that have never been previously issued are offered. It is a market of fresh capital. The main function of this market is to facilitate the transfer of funds from willing investors to the entrepreneurs.
Secondary market also called stock exchange represents a market where existing securities i.e. shares and debentures are traded. Its main function is to create a link between the buyers and sellers of securities so that investments can change hands in the quickest and cheapest manner.
According to Securities Contract (Regulation) Act, 1956, the term stock exchange has been defined as, “an association, organisation or body of individuals, whether incorporated or not, established for the purpose of assisting, regulating and controlling business in buying, selling and dealing in securities.”
Thus, a stock market is a market where dealings in the listed securities are made by the members of the exchange on their own behalf or on behalf of others.
From the above explanation it is clear that there are some differences between primary and secondary market which are given below:
Basis
Primary Market
Secondary Market
1. Meaning
It is the market where the securities are issued for the first time. It is also referred as New issue market.
It is the market where the existing securities are traded. It is also called stock Exchange.
2. Pricing
The prices of the securities are determined by the company.
The prices of the securities are determined by the forces of demand and supply of the securities.
3. Purchase and sale of securities
Here, only buying of the securities take place.
Here, buying and selling of the securities, both take place.
4. Ownership transferred
 Securities are sold by the company directly to the investors.

Ownership of the securities is exchanged among the investors. The company is not involved at all.
5. Purpose
Purpose of primary market is to provide capital for setting new business.
The main purpose of secondary market is to provide liquidity of securities.
6. Geographical area
There is no fixed geographical area for primary market.
There is a fixed geographical area and working hours.
Q.N.6. “Stock exchange is the barometer of the economy” In the light of the statement, discuss the functions of the stock exchange.  2012, 2016
Ans: As the barometer measures the atmospheric pressure, the stock exchange measures the growth of the economy. it performs the following vital functions:
a) Provides liquidity and marketability of securities: The stock exchange provides a market where the securities can be converted into cash and vice versa. The marketability of the existing securities takes place easily.
b) Pricing of securities; Stock exchange is a mechanism where the prices of the securities are determined by the forces of demand and supply of the securities.
c) Safety of transactions: The membership, operation of the stock exchange is regulated by SEBI through its protective and Regulatory functions. The listing of the securities is compulsory which protects the interests of the investors.
d) Contributes to Economic Growth: The stock exchange leads to capital formation and allocation of resources through the process of investment and disinvestment of the securities. As buying and selling of securities take place funds are available to the eligible companies and savings are channelised.
e) Provides scope for speculation: Speculation is a legal activity if it is performed within the regulations determined by SEBI. Healthy speculation is encouraged to ensure liquidity and price continuity in the stock market.
Q.N.7. “SEBI is the watchdog of the securities market” Do you agree? Give four reasons to support your Answer.  2013, 2014
Ans: Yes, I do agree that as SEBI performs many protective (Regulatory) functions for the security market. They are as follows:
a) To check unfair trade practices such as to supply misleading statement to the public, price rigging.
b) To check insider trading in securities. Insider trading means the buying and selling of the securities by those persons (Directors, promoters) who have some secret information of the company and wish to take advantage of it. It hurts the interest of the common man.
c) To provide education to the investors so as to protect them from being exploited by unfair means: or unhealthy activities of the intermediaries.
d) To promote code of conduct relating to the security market (for the companies, stock exchange and intermediaries)
e) To regulate takeover bids of companies.
Q.N.8. State the development functions of SEBI.
Ans: These functions are performed by the SEBI to promote and develop activities in stock exchange and increase the business in stock exchange. Under developmental categories following functions are performed by SEBI:
(i) SEBI promotes training of intermediaries of the securities market.
(ii) SEBI tries to promote activities of stock exchange by adopting flexible and adoptable approach in following way:
(a) SEBI has permitted internet trading through registered stock brokers.
(b) SEBI has made underwriting optional to reduce the cost of issue.
(c) Even initial public offer of primary market is permitted through stock exchange.
Q.N.9. State the protective functions of SEBI.
Ans: a) It checks price rigging. b) It prohibits insider trading. c) It prohibits fraudulent and unfair trade practices. d) It educates investors.
Q.N.10. Explain the trading procedure on NSEI. OR Explain the procedure of trading on the stock exchange.
Ans: The selling and the buying process of securities on the NSEI are as under:
a) Placing the order: First of all, the person buying or selling the security places an order. He mentions the company whose securities are to be traded, quantity and time period.
b) Conveying the message to computer: As soon as the terminal operator receives the order from the customer, he feeds it on the computer. All the terminal operators simultaneously feed their orders online.
c) Matching: The computer matches the orders. Whenever the computer matches a suitable buying and selling order, it shows the list on the computer.
d) Accepting the order: After obtaining the correct match, the order is accepted by both the parties.
e) Delivery and payment: After the transaction is settled, it payment is done as per the regulations of NSEI.

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