Chanderprabhu Jain College of Higher Studies & School of Law

Plot No. OCF, Sector A-8, Narela, New Delhi – 110040

(Affiliated to Guru Gobind Singh Indraprastha University and Approved by Govt of NCT of Delhi & Bar Council of India)

Semester: B. Com - V Semester

Name of the Subject:
FINANCIAL MARKET & INSTITUTIONS
PAPER CODE : B.COM 313
Unit-1
Financial Markets
and Institutions
Meaning of Financial System

Finance + System = Financial System

Study of money, its

nature, creation, All those activities dealing in finance
behavior, regulations organized into a system
and administration

Set of complex & closely connected or

intermixed instructions, agents,
practices, markets, transactions, claims
& liabilities in the economy
Copyright© 2002 Thomson Publishing. All rights reserved.
Organizational Structure of Indian Financial System

Financial System

Financial
Institutions Financial Financial Financial
Markets Instruments Services

Primary Secondary
Non- Organized Unorganized
Regulatory Intermediaries

Short Term Long Term

Others
Intermediaries Primary Secondary Medium Term

Capital Equity Money

Banking Non Banking Debt
Derivatives Market
Copyright© 2002 Thomson Publishing. All rights reserved.
Financial Institutions

 Meaning: business organizations that act as mobilisers and depositors of savings, and as
purveyors of credit or finance
 Mobilise and transfer the savings or funds from surplus unit to deficit unit
 Bifurcated into Regulatory and Intermediaries
 The regulators are assigned with the job of governing all the divisions of the Indian financial
system. Eg: RBI, SEBI, CBDT, Central Board of Excise and Customs

Copyright© 2002 Thomson Publishing. All rights reserved.

Overview of Financial Markets

Financial Market: a market in which financial

assets (securities) such as stocks and bonds
can be purchased or sold

 Financial markets provide for financial intermediation--financial savings (Surplus Units) to

investment (Deficit Units)
 Financial markets provide payments system
 Financial markets provide means to manage risk

Copyright© 2002 Thomson Publishing. All rights reserved.

Classification of Financial Markets

Financial Market

Money Market Capital Market

Primary Secondary Primary Secondary

Treasury Stock Debt Mutual

Call Market
Money Bills Market Funds
Short Term
Commercial Loan
Bills Market

Copyright© 2002 Thomson Publishing. All rights reserved.

Money Market

 It is a place for large institutions & government to manage their short-term cash needs
 Specializes in very short term debt securities (<1 year)
 Money Market Investments are also called CASH INVESTMENTS (short maturities)
 Lower rate than other securities (conservative & safe investment)
 To be eligible for classification as money market instrument, a debt must be classified as:
 Un-collateralized short term of an issuer with high credit rating
 Highly liquid & readily transferable
 Bear an annualized “Discount Yield”

Copyright© 2002 Thomson Publishing. All rights reserved.

Primary vs. Secondary Markets

 PRIMARY  SECONDARY
 New Issue of Securities  Trading Previously Issued Securities

 No New Funds for Issuer

 Exchange of Funds for Financial
Claim
 Provides Liquidity for Seller
 Funds for Borrower

Copyright© 2002 Thomson Publishing. All rights reserved.

Money vs. Capital Markets
 Money
 Short-Term, < 1 Year
 Means of liquidity adjustment
 High Quality Issuers
 Debt Only: low default & low market
risk
 Primary Market Focus
 Liquidity Market--Low Returns
 Capital
 Long-Term, >1Yr
 Principal fn: link b/w long-term
investors & long term borrower
 Range of Issuer Quality
 Debt and Equity: both risks are
substantial
 Secondary Market Focus
 Financing Investment--Higher
Returns
Copyright© 2002 Thomson Publishing. All rights reserved.
Players in Money Market

 Central Bank (Presiding Deity of Money Market)-not only watchdog but

also promotional & development banker
 Commercial Banks
 Co-operative Banks
 Discount & Acceptance Houses
 Bills Market, Bullion Market etc.

Copyright© 2002 Thomson Publishing. All rights reserved.

UNIT -2
 Money Market

Money market means market where money or its equivalent can be traded.
Money Market is a wholesale market of short term debt instrument and is
synonym of liquidity..
Money Market is part of financial market where instruments with high liquidity
and very short term maturities ie one or less than one year are traded.
Due to highly liquid nature of securities and their short term maturities, money
market is treated as a safe place.
Hence, money market is a market where short term obligations such as
treasury bills, call/notice money, certificate of deposits, commercial papers and
repos are bought and sold.
 The Players

• Reserve Bank of India

• SBI DFHI Ltd (Amalgamation of Discount & Finance House in India
and SBI in 2004)
• Acceptance Houses
• Commercial Banks, Co-operative Banks and Primary Dealers are
allowed to borrow and lend.
• Specified All-India Financial Institutions, Mutual Funds, and certain
specified entities are allowed to access to Call/Notice money
market only as lenders
• Individuals, firms, companies, corporate bodies, trusts and
institutions can purchase the treasury bills, CPs and CDs.
 Call Money Market

• The call money market is an integral part of the Indian Money Market,
where the day-to-day surplus funds (mostly of banks) are traded. The
loans are of short-term duration varying from 1 to 14 days.
• The money that is lent for one day in this market is known as "Call
Money", and if it exceeds one day (but less than 15 days) it is referred to
as "Notice Money".
Banks borrow in this market for the following purpose
• To fill the gaps or temporary mismatches in funds
• To meet the CRR & SLR mandatory requirements as stipulated by the
Central bank
• To meet sudden demand for funds arising out of large outflows.
•
 Certificate of Deposit

• CDs are negotiable money market instruments and are issued in

dematerialized form, for funds deposited at a bank or other eligible
financial institution for a specified time period.
• They are like bank term deposits accounts. Unlike traditional time deposits
these are freely negotiable instruments and are often referred to as
Negotiable Certificate of Deposits
 Commercial Paper

• Commercial Paper (CP) is an unsecured money market instrument issued

in the form of a promissory note.
Who can issue Commercial Paper (CP)
Highly rated corporate borrowers, primary dealers (PDs) and satellite
dealers (SDs) and all-India financial institutions (FIs)
To whom issued
• CP is issued to and held by individuals, banking companies, other
corporate bodies registered or incorporated in India and unincorporated
bodies, Non-Resident Indians (NRIs) and Foreign Institutional Investors
(FIIs).
• Denomination: min. of 5 lakhs and multiple thereof.
• Maturity: min. of 7 days and amaximum of upto one year from the date of
issue
 Treasury Bills

• Treasury bills, commonly referred to as T-Bills are issued by Government

of India against their short term borrowing requirements with maturities
ranging between 14 to 364 days.
• All these are issued at a discount-to-face value. For example a Treasury bill
of Rs. 100.00 face value issued for Rs. 91.50 gets redeemed at the end of
it's tenure at Rs. 100.00.
• Who can invest in T-Bill
• Banks, Primary Dealers, State Governments, Provident Funds, Financial
Institutions, Insurance Companies, NBFCs, FIIs (as per prescribed norms),
NRIs & OCBs can invest in T-Bills.
 Primary Market
• Financial markets can be categorized as those dealing with newly issued
financial claims, called the primary market; and those for exchanging
financial claims previously issued, called the secondary market, or the
market for seasoned securities.
• Primary market is market for fresh capital.
• In India, new capital issues are floated through prospectus, rights and
private placement. The primary market is the market for new issues/shares.

• Primary market provides opportunity to issuers of securities; Government

as well as corporates, to raise resources to meet their requirements of
investment.

• They may issue the securities at face value, or at a discount/premium and

these securities may take a variety of forms such as equity, debt etc.

• Company may issue the securities in domestic market and/or international

market.
Classification of Issues

Private Placement

Private Placement Preferential Issue

 Public Issue

• Public issue means an invitation by a company to the public to subscribe

the securities/shares

Initial Public Offer

• Initial Public Offering (IPO) is when an unlisted company makes a fresh
issue of securities for the first time to the public. This paves way for listing
and trading of the issuer’s securities.

• A Follow-On Public Offering (Further Issue) is when an already listed

company makes a fresh issue of securities (additional new shares) to the
public.
 Pricing of issues

• Companies eligible to make public issue can freely price their

equity shares or any security.

• Fixed Price
• Book Building
 Fixed Price

• In the fixed-price issue method, the issuer fixes the issue price well
before the actual issue.
• For this very reason, it is cautious and conservative in pricing the
issue so that the issue is fully subscribed.
• Underwriters also do not like the issue to devolve on them and
hence favour conservative pricing of the issue. For these practical
reasons, the issue price in the case of traditional fixed price method
generally errs on the lower side and, therefore, in the investor’s
favour.
 Book building

• Book building is a process by which demand for the proposed issue is

elicited and built up and the price at which the securities will be issued is
determined on the bids received.
• The company first appoints one or more merchant banker as book runner
and their names are disclosed in draft prospectus.
• The lead book runner shall compulsorily underwrite the issue .
UNIT -3
 Financial System

• A financial system may be defined as a set of institutions , instruments and

markets which fosters savings and channels them to their most efficient
use.

Financial
System

Financial Financial Financial

Intermediaries Instruments Markets
 Financial System Consists of..

Financial
System

Financial Financial Financial

Intermediaries Instruments Markets
 Functions of a Financial System

• Mobilize and allocate savings – Link between investors and savers.

• Helps to monitor corporate performance.
• It provides a payment and settlement system.
• It provides diversified investment opportunities.
 Banking in India

Governed by

Banking
Reserve bank of
Regulation Act,
India Act, 1934
1949
 Definition of Banking

Banking is defined in section 5(b) of the Banking Regulation Act as the

acceptance of deposit of money from the public for the purpose of lending
or investment. Such deposits may be repayable on demand or otherwise and
withdraw able by cheque, draft or otherwise.
 History of Banking in India
• Banking in India originated in the last decades of the 18th century.
• The first banks were The General Bank of India, which started in 1786, and
Bank of Hindustan, which started in 1790
• The oldest bank in existence in India is the State Bank of India
• Three Presidency Banks were established under charters from the British
East India Company namely:
– Bank of Calcutta which almost immediately became the Bank of
Bengal
– Bank of Bombay and the Bank of Madras

The three banks merged in 1921 to form the Imperial Bank of India,
which, upon India's independence, became the State Bank of India in
1955
 which almost immediately became the
– Bank of Calcutta
Bank of Bengal
– Bank of Bombay and the Bank of Madras

The three banks merged in 1921 to form the Imperial

Bank of India, which, upon India's independence,
became the State Bank of India in 1955
 Nationalization of Banks

• Nationalization: The act of taking an industry or assets into the public

ownership of a national government or state.
• Nationalization took place in two phases, with a first round in 1969
covering 14 banks followed by another in 1980 covering six banks.
 Reasons for Nationalization
• Private commercial banks were not fulfilling the social and developmental
goals of banking
• The developmental goals of financial intermediation were not being
achieved other than for some favored large industries and established
business houses.
• To ensure that credit allocation occur in accordance with plan priorities.
• Reduce the hold of moneylenders and make more funds available for
agricultural development. Nationalization of bank was to actively involve
in poverty alleviation and employment generation programs.
 Structure of
Indian Commercial Banks
 Types of Banks

• Central bank: A central bank, reserve bank, or monetary

authority is a public institution that manages the nation's currency,
money supply, and interest rates. Central banks also usually oversee
the commercial banking system of their respective countries.
• Commercial Banks: Commercial Banks are banking institutions
that accept deposits and grant short-term loans and Advances to
their customers.
• Co-operative Banks: People who come together to jointly serve
their common interest often form a co-operative Society under the
Co-operative Societies Act. When a co-operative society engages
itself in Banking business it is called a Co-operative Bank.
• Scheduled and Non Scheduled Banks
 Commercial Banks
• A commercial bank is owned by stockholders and operated for profit.
• Its primary functions are to receive, transfer, and lend money to
individuals, businesses, and governments.
• Indian banks consist mostly of Scheduled Commercial Banks (SCBs),
which includes both Public Sector Banks, and the Private Sector Banks. In
Public Sector Banks, the government must retain a 51% stake.
• Scheduled Commercial Banks in India are categorized into five different
groups according to their ownership and / or nature of operation.
• These bank groups are
– State Bank of India and its Associates
– Nationalized Banks
– Private Sector Banks
– Foreign Banks and
– Regional Rural Banks
• In the bank group-wise classification, IDBI Bank Ltd. has been included in
Nationalised Banks.

Contd..
 Functions

Primary Functions
• Accepting deposits
• Advancing Loans
Secondary Functions
• Discounting Bills of exchange
• Agency services and
• General services etc
 Accepting Deposits
• Demand or Current Account Deposits
– A depositor can withdraw it in part or in full at any time he/she likes
without notice
– It carries no interest
– Cheque facility is available
• Fixed Deposits or Time Deposits
– Fixed deposits for 15days to few years
– Withdrawn at expiry of term
– High rate of interest
– Risk less investment
• Saving Bank Deposits
– Small saving deposits
– less rate of interest
– money can be withdrawn through cheques/ATM/by demanding
 Advancing Loans
• This is the most important means of earnings for the banks.
• Giving loans to businessmen.
• But it keeps a fine balance between deposits and loans.
• Banks profitability depends on this as well
Secondary Functions
• Issuing letters of credit, travelers cheque, etc.
• Undertaking safe custody of valuables, important document and securities
by providing safe deposit vaults or lockers.
• Providing customers with facilities of foreign exchange dealings.
• Transferring money from one account to another; and from one branch to
another branch of the bank through cheque, pay order, demand draft.
• Standing guarantee on behalf of its customers, for making payment for
purchase of goods, machinery, vehicles etc.
• Collecting and supplying business information.
• Providing reports on the credit worthiness of customers.
• Providing consumer finance for individuals by way of loans on easy terms
for purchase of consumer durables like televisions, refrigerators, etc.
• Educational loans to students at reasonable rate of interest for higher
studies, especially for professional courses.
 Agency Services

• Collection of bills and cheques.

• Collection of dividends, interest, and premium.
• Purchase and sale of shares and debentures.
• Payment of insurance premium.
• Acts as trustee when nominated.

General services
• Traveller’s cheques, bank draft
• Safe vaults for valuables
• Supplying trade information
• Economic surveys
• Projects report preparation
 Role of Commercial Banks in India
• Trade Development: The commercial banks provide capital, technical
assistance and other facilities to businessmen according to their need, which
leads to development in trade.
• Supports to Agriculture Development
• Supports to Industrial Development
• Capital Formation (Capital formation means increase in number of
production units, technology, plant and machinery)
• Development of Foreign Trade: Letter of credit is issued by the importer’s
bank to the exporters to ensure the payment. The banks also arrange foreign
exchange.
• Transfer of Money
• Supports to more Production (Agriculture & Industry)
• Development of Transport (banks financed the transport sector)
UNIT-4
Mutual Funds
 Introduction

• A mutual fund is a financial intermediary that pools the savings of investors

for collective investment in a diversified portfolio of securities. A fund is
“mutual” as all of its returns, minus its expenses, are shared by the fund’s
investors.
• The Securities and Exchange Board of India (Mutual Funds) Regulations,
1996 defines a mutual fund as a ‘a fund established in the form of a trust to
raise money through the sale of units to the public or a section of the public
under one or more schemes for investing in securities, including money
market instruments’.
• A mutual fund serves as a link between the investor and the securities
market by mobilising savings from the investors and investing them in the
securities market to generate returns. Thus, a mutual fund is akin to
portfolio management services (PMS). Although, both are conceptually
same, they are different from each other. Portfolio management services are
offered to high net worth individuals; taking into account their risk profile,
their investments are managed separately. In the case of mutual funds,
savings of small investors are pooled under a scheme and the returns are
distributed in the same proportion in which the investments are made by the
investors/unit-holders.
 Benefits of Mutual Funds
1. Professional management: An average investor lacks the knowledge of
capital market operations and does not have large resources to reap the
benefits of investment. Hence, he requires the help of an expert. It, is not
only expensive to ‘hire the services’ of an expert but it is more difficult to
identify a real expert. Mutual funds are managed by professional managers
who have the requisite skills and experience to analyse the performance and
prospects of companies. They make possible an organised investment
strategy, which is hardly possible for an individual investor.

2. Portfolio diversification: An investor undertakes risk if he invests all his

funds in a single scrip. Mutual funds invest in a number of companies
across various industries and sectors. This diversification reduces the
riskiness of the investments.
3. Reduction in transaction costs: Compared to direct investing in the capital
market, investing through the funds is relatively less expensive as the benefit
of economies of scale is passed on to the investors.
4. Liquidity: Often, investors cannot sell the securities held easily, while in case
of mutual funds, they can easily encash their investment by selling their units
to the fund if it is an open-ended scheme or selling them on a stock exchange
if it is a close-ended scheme.
5. Convenience: Investing in mutual fund reduces paperwork, saves time and
makes investment easy.
6. Flexibility: Mutual funds offer a family of schemes, and investors have
the option of transferring their holdings from one scheme to the other.
7. Tax benefits: Mutual fund investors now enjoy income-tax benefits.
Dividends received from mutual funds’ debt schemes are tax exempt to the
overall limit of Rs 9,000 allowed under section 80L of the Income Tax Act.
 Types of Mutual Fund Schemes

• The objectives of mutual funds are to provide continuous liquidity and higher
yields with high degree of safety to investors. Based on these objectives,
different types of mutual fund schemes have evolved.

Functional Portfolio Geographical Other

Open-Ended Event Income Funds Domestic Sectoral Specific
Close-Ended Scheme Growth Funds Off-shore Tax Saving
Interval Scheme Balanced Funds ELSS
Money Market Special
Mutual Funds
Gilt Funds
Load Funds
Index Funds
ETFs
PIE Ratio Fund
MERCHANT
BANKING
 Introduction

Merchant bank is a financial institution primarily engaged in international

finance and long-term loans for multinational corporations and
governments. It can also be used to describe the private equity activities of
banking. It is now obligatory that all public issues are managed by
merchant bankers who function like lead managers.
ACTIVITIES DONE BY MERCHANT BANKERS
• Issues relating to new issues.
• Determination of security-mix to be issued.
• Drafting of prospectus, application forms, allotment letters.
• Host of other documents, appointment of registrars for handling share
applications and transfers
• Making arrangements for underwriting, placement of shares, selection and
appointment of brokers and bankers to the issue
• Publicity of the issue, etc.
 Categories of Merchant bankers

1. CATEGORY I : those merchant bankers who can conduct all functions.

2. CATEGORY II : who can act as consultants, advisors, portfolio managers
and co-managers.
3. CATEGORY III : who can act as underwriters, advisors and consultants.
4. CATEGORY IV : who can act only as advisers or consultants to an issue.
 Responsibilities of merchant bankers

• Enter into a contract with the issuing company clearly specifying their mutual rights,
obligations and liabilities relating to the issue, particularly relating to disclosures,
allotment and refund.
• Refuse acceptance of appointment as lead manager, if the issuing company is its
associate.
• Submit a copy of the above contract to SEBI at least one month before the opening
of the issue for subscription.
• Not to associate with a merchant banker who does not hold SEBI registration
certificate.
• Accept a minimum underwriting obligation of 5% of total commitment or Rs. 25
lakhs, whichever is less.
• Submit to SEBI various documents such as, particulars of the issue, draft
prospectus/letter of offer and other literature to be circulated to the
investors/shareholders, etc. at least two weeks before the date of filling them with
the registrar of companies and regional stock exchanges.
• Ensure that modifications and suggestions made by SEBI regarding above
documents have been duly incorporated.
 Duties of Merchant Banker

• Observe high standards of integrity and fairness in its dealings with the client and
other merchant bankers.
• Disclose to the clients possible sources of conflict of duties and interest, if any, while
accepting the assignment and while providing the services.
• Try his best to render the best possible advice to the clients having due regard to the
client’s needs and his own professional skills.
• Provide all professional services to the clients in a prompt, efficient and cost-effective
manner.
• Take adequate steps for fair allotment of securities and refund of application money
without delay.
• Adequately deal with complaints from the investors.
• Make available to the investors a true and adequate information relating to the issue
without making any misguided or exaggerated claims.
LEASING
 LEASING
LEASE is a contract between a lessor and a lessee for the
hire of a specific asset. The lessor retains the ownership of
the asset but conveys the right to use the asset to the
lessee for an agreed period of time in return for specific
rentals.
LESSOR is the legal owner of the asset. Lessor rents out
the asset to a lessee and receives income
LESSEE pays rents in accordance with the terms of the
lease; receives economic benefits associated with the
asset and also incurs future obligations.
Leasing is defined as a written contract entered into between a leasing company
(“Lessor”) of the one part and the User of the equipment (“Lessee”) of the other
part whereby the Lessee agrees to pay the Lessor a specified sum of rentals over
an obligatory period of time in consideration for the use of capital equipment
owned by the Lessor without the Lessee having to purchase or own the
equipment.
Generally, leases provide for the following terms:
1.The lessor allows the lessee the unrestricted right to use the asset during
the lease term
2.The lessee agrees to make periodic payments to the lessor and to maintain
the asset
3.Title to the asset remains with the lessor, who usually retakes possession of
the asset at the conclusion of the lease.
Advantages to Leasing
1. Leases often require much less equity
investment than bank financing.
2. Since leases are contracts between two
willing parties, their terms can be
structured in any way to meet their
respective needs.
3. If properly structured, neither the leased
asset not the lease liability are reported on
the face of the balance sheet.
 Types of Leases

OPERATING LEASE
(maintenance or service lease)
Relatively short term agreement: akin to hiring an asset e.g. a taxi, car
for holidays
Easily cancellable arrangement
Risk/rewards do not usually pass to the lessee.
Lessor remains responsible for repairs and maintenance.
Payments by the lessee to the lessor are charged to P/L account on a
straight line basis
Receipts are shown as revenue in the P/L account of the lessor on a
straight line basis.
Note to the accounts if amounts are material