By: Watsala Shakya
Defining Capital Market
Similar to how we need markets to exchange commodities, we need a market that allows us to exchange financial securities just as commodities. Capital markets are where buyers and sellers meet to trade financial securities such as stocks and bonds, among others. The exchange is overseen by participants such as the Nepal Stock Exchange (NEPSE) and brokers. The aim of the capital market is to improve transactional efficiencies. The main function that the capital market carries out is that it directs surplus funds from saving to investments in institutions so that savings do not lie idle. The surplus is generally used by traders in long-term securities. Traders and investors can use this surplus amount in either of the two markets capital markets consist of:
1. Primary Market
The primary market deals with the trade of newly issued stocks commonly known as Initial Public Offering (IPO) and Follow on Public Offering (FPO). An IPO is an initial public offering where a public company lists its shares on the stock exchange, making them available for purchase by the general public. A lot of people think that IPOs are great income opportunities – leading companies capture stocks with huge gains on the share price when listed on the stock exchange. FPO (Follow on Public Offer) is a process by which a company, already listed on the stock exchange, issues new shares to existing investors or shareholders, or the general public.
2. Secondary Market
The secondary market of capital market deals with the exchange of financial securities that had already been existing or had previously been issued by companies in the primary market. The secondary capital market is also known as the stock market. In these markets, a broker generally purchases securities on behalf of the investor at a price that fluctuates every fraction of time, dictated by the market; which is very different from the primary market where prices are set prior to taking the stocks public. Small investors have a far higher probability of trading securities on the secondary market since they’re excluded from IPOs. Anyone can buy securities on the secondary market as long as they are willing to pay the asking price per share. A factor to consider when doing so is that investors will have to pay a commission to the broker for carrying out the trade. In Nepal, where the only stock exchange available is the Nepal Stock Exchange (NEPSE), the rate commission charged on each buy and sell can range based on the transaction amount, as of November 2021, the rates are as follows:
|Range of Transaction Amount in NPR||Broker Commission Rate|
|Up to 50,000||0.40%|
|Above 50,000 to 5,00,000||0.37%|
|Above 5,00,000 to 20,00,000||0.34%|
|Above 20,00,000 to 1,00,00,000||0.30%|
From the commission charged by brokers, they will have to pay 20% of the commission to NEPSE and 0.6% of the commission to SEBON as a regularity fee.
Related: Stock Brokers’ Commission In Nepal
Financial Market vs Capital Market
Capital market and financial market seem to have many similarities, due to which investors may wonder what differentiates one from another. While financial markets refer to the place of exchange where securities are traded, which includes the stock market, bond market, forex market, and derivatives market among others. The financial market also includes various kinds of assets or securities that are listed on regulated exchanges such as NEPSE or over-the-counter (OTC). The financial market comprises a broad range of sites where people and organizations can gather to exchange assets, securities, and contracts with one another and are generally secondary markets. On the other hand, the capital market is essentially used to raise funds for firms which is then mainly used for operation or for growth.
Defining Stock Market
The terms “stock market” and “stock exchange” may often come across as the same. The stock markets allow interaction between buyers and sellers by bringing them together and hence making transactions organized, convenient and secure. The stock market is a collective market that consists of buying, selling, and issuing shares publicly. These shares are frequently traded on formal platforms such as regulated exchanges and also over-the-counter.
The stock market reflects the state of the overall economy. The stock market provides opportunities for price discovery for the share of companies, which also shows the state or position of the company in the economy. The stock market, therefore, acts as both primary market and secondary market. If it issues more shares, questions such as “is the company expanding?”, “Is the company issuing shares to settle its debts?” and other such questions arise. When these subjects or questions are answered, companies are valued, which also indicates the health of the economy in some way. This would mean investors can be assured of the price of shares being accurate in theory. The valuation of the stock of companies is also determined by the market participants that compete with one another for the best price, which means a high degree of liquidity would be favorable.
The trades in the stock market always have some form of risk involved, a secure and regulated environment where the market participant can trade shares and other financial instruments with zero to minimize operational risk. As the stock market operates as both primary and secondary market, as a primary market it permits companies to issue and sell their shares to the general public. This helps companies raise capital and at the same time diverts savings to investment. On the other hand, as a secondary market, the stock market facilitates the process in which a company can divide itself into shares. It provides a marketplace where shares can be traded which increases or decreases its demand, this evidently increases the price of shares if the demand increases and vice-versa. Investors will get to own a portion of the company, of which the ownership extends to the number of shares the investor owns. Investors will choose to hold their shares for the preferred duration, during which investors speculate fluctuations in share prices. They anticipate an increase in the stock price and any potential income from the shares in the form of dividends.
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Capital Market Vs Stock Market
The difference between capital market and stock market lies in the different types of financial assets and securities traded. While the stock market only trades stocks, the capital market consists of a wide range, from stocks, bonds, derivatives, commodities, and other capital assets. Capital market deals with assisting and providing a platform for companies to raise capital through the general public. The stock market provides exclusivity to its investors by allowing them to exchange or trade stocks, which represent their share of ownership of companies. This is not only one method by which companies can generate capital through the stock market, companies can also issue bonds and sell them to the public as they would for shares. Within the stock market, trade among banks that underwrite stocks and trades of public investors are also permitted.
On the other hand, the capital market is much vast. It includes the stock market and bond market. It also consists of the first sale of stock or bond on the primary market, while it also includes the trade between investors and also companies in the secondary market.
Finance experts have also compared the difference between stock and capital market to be similar to the difference between a rectangle and a square. Both the shapes may have four sides and are connected at 90-degree angles, but are not the same. Squares are part of the rectangle group, however, not all rectangles are square. Likewise, the stock market is part of the capital market, but not the capital market is not just limited to the stock market. All of the transactions of the stock market may occur in the capital market, but not all capital market transactions happen on the stock market.
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