What Is Capital Market? Meaning, Types, Functions, and Importance Explained

Introduction

The capital market plays a vital role in the economic development of any country. It provides a platform for individuals, companies, and governments to raise long-term funds and invest in productive activities. In this blog, we explain what a capital market is, its types, key features, functions, and its importance in the Indian financial ecosystem.

What Is Capital Market?

A capital market is a financial market where buyers and sellers trade long-term financial instruments like stocks, bonds, debentures, and other securities. It facilitates the movement of capital from savers to businesses or institutions that need funds for long-term investments.

Definition:

The capital market is a marketplace that enables the efficient allocation of long-term funds and includes both primary and secondary markets.

Types of Capital Market

1. Primary Market

• Also known as the new issue market
• Where companies raise funds by issuing new shares, debentures, or bonds to investors
• Example: Initial Public Offering (IPO), Rights Issue

2. Secondary Market

• Also known as the stock market or aftermarket
• Where existing securities are traded among investors
• Example: Trading of shares on NSE or BSE

Functions of Capital Market

1. Mobilization of Savings

• Attracts savings from individuals and institutions and channels them into productive uses

2. Capital Formation

• Facilitates creation of new capital assets through investment in long-term projects

3. Liquidity for Investors

• Allows investors to convert their securities into cash easily via secondary markets

4. Price Discovery

• Determines fair market value of securities through supply and demand

5. Risk Diversification

• Offers a variety of financial instruments for investors to diversify their portfolios

6. Efficient Allocation of Resources

• Funds are directed towards businesses/projects with better returns.

Features of Capital Market

• Long-Term Focus: Deals in instruments with maturity periods of more than one year
• Regulated by SEBI: Ensures transparency and investor protection in India
• Wide Participant Base: Includes retail investors, institutional investors, foreign investors
• Variety of Instruments: Equity shares, preference shares, debentures, bonds, etc.
• Market-Driven Pricing: Securities priced through market dynamics

Importance of Capital Market in India

1. Economic Growth

• Supports industrial development and infrastructure expansion

2. Encourages Investment

• Offers opportunities for individuals to invest and grow wealth

3. Funding Source for Enterprises

• Provides businesses with capital for expansion, R&D, and innovation

4. Improves Corporate Governance

• Listed companies must comply with disclosure norms, improving transparency

5. Employment Generation

• Investment-led business growth creates jobs across sectors

6. Global Integration

• Enables foreign capital inflows through FPI and FDI participation
   

 

Mutual Fund schemes and capital markets are intricately connected, with mutual fund schemes serving as a one of the channels for individual and institutional investments into the capital markets.

 

A mutual fund is a pool of money managed by a professional Fund Manager. A mutual fund is a collective investment vehicle that collects & pools money from a number of investors and invests the same in equities, bonds, government securities, money market instruments.

It is a trust that collects money from a number of investors who share a common investment objective and invests the same in equities, bonds, money market instruments and/or other securities. And the income / gains generated from this collective investment is distributed proportionately amongst the investors after deducting applicable expenses and levies, by calculating a scheme’s “Net Asset Value” or NAV.

Mutual Funds offer various avenues to fulfill different objectives, which investors can choose from based on one’s unique situation and objective.

Conclusion

The capital market is a critical pillar of India’s financial system, bridging the gap between investors and enterprises. Whether through IPOs in the primary market or daily trading in the secondary market, it fuels capital formation, economic growth, and wealth creation. For both new and seasoned investors, understanding how the capital market functions is key to informed investment decisions.

Additional links:

What is a Mutual Fund? - Beginner's Guide to Investing

AMFI - Introduction to Mutual Funds

Know everything about SIP

Securities and Exchange Board of India

Let’s Learn How to Invest in Securities Market