Workings of the Indian Capital Market: An Inside-Out View

The Indian capital market comprises the sum total of all the buyers and sellers – both individuals and institutions – who trade in various kinds of certificates or financial instruments that carry a certain monetary value. Such financial instruments are broadly classified into equities and debt securities.

Equity:

This is the value of shares issued by a company to an individual or institution and indicative of her/his ownership in the company. A portion of the company’s profits is distributed annually to shareholders in the form of dividend. Where shareholders sell their equity at a price higher than their purchase price, they also benefit in terms of capital gains, which is taxable. Equities do not return any fixed interest.

Debt-based security:

This takes the form of government bonds, municipal bond, corporate bonds, certificate of deposit, debenture, promissory note, or preferred stocks whose holders have a right to fixed dividends. The issuer of a debt instrument promises to repay the holder a specified interest, plus the capital, on a certain date.

Like in most other places, the Indian capital market consists of primary and secondary markets. 

Primary market:

This is the part of the capital market wherein companies, governments, and other groups raise funds by issuing new equities or debt-based securities to the public for the first time. A classic example of a primary market is an initial public offering (IPO), in which a privately held business, in an attempt to “go public,” offers new stocks to institutional investors (like banks, insurance companies, pensions, hedge funds, real estate investment trusts, endowments, mutual funds as well as individual investors. Undersubscription of a new issue (stock or bond) is a key risk for the issuer; In return for a fee, investment bankers assume responsibility for underwriting this risk and for absorbing losses, if any, arising from undersubscription. Public accounting firms, for their part, help issuers in the primary market prepare audited statements of financial performance, attesting to the fairness of the presentation.

Secondary market:

In the secondary market (“aftermarket”), equities and debt instruments previously issued in the primary market are traded between investors. For instance, the investors holding a company’s stock can sell the same in the secondary market to other investors either for a profit or to minimize their loss. NSE and BSE are some examples of secondary markets for buying and selling shares. Bonds are traded via over-the- counter secondary exchanges. Secondary market is the part of the capital market that accounts for a lion’s share of all trading in equity and debt instruments.  

Money market:

This is considered an informal and unregulated market where companies, banks, financial institutions and governments sell commercial papers, treasury bills, and deposit certificates to fulfill their short-term need for much-needed funds. Money market instruments enjoy high liquidity and mature in a year or even less. But the return they provide though fixed is lower than that from capital market instruments.

The Securities and Exchange Board of India (SEBI), established in April 1992, is the apex statutory body mandated “to protect the interests of investors in securities and to promote the development of, and to regulate the securities market and for matters connected therewith or incidental thereto."