Notes on Capital Market

8/6/2019 Notes on Capital Market

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CAPITAL MARKET

Capital market may be defined as a market for borrowing and lending long term capitalfunds required by business enterprises. Capital market offers an ideal source of externalfinance. Thus capital market represents all the facilities and the institutional arrangement

for borrowing and lending medium and long term funds. It composed of those who demandfunds and those who supply funds.

CHARACTERISTIC FEATURES OF A CAPITAL MARKET:

Securities market : The dealing in a capital market is done through the securities likeshares, debentures, etc. The capital market is thus known as securities market.

Securities Prices : The prices of securities that are dealt with in the capital market isdetermined through general laws of demand and supply. The equilibrium in demandand supply of securities is brought about by the pr ices. The prices depend ondifferent factors such as following : Yield on securitiesExtent of funds available from public savingsLevel of demand for fundsFlow of funds from the banking systemPrice situation in general

Participants : there are many players in the capital market. The capital funds areeither directly supplied or arranged through financial intermediaries. Theparticipants in the capital market includes : Financial intermediaries like insurance companies, investment companies, pensionfunds etc.Non- financial business enterprises

Ultimate economic units like hous eholds and governments.

Lo cati o n : The capital market is not confined to certain specific locations, although itis true that parts of the market are concentrated in certain well known centres

known as stock exchanges.


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FUNCTION OF CAPITAL MARKET:

All o cati o n functi o n: capital market allows for channelization of the saving of innumerable investors into various productive avenues of investment. It allocatesand rations funds by a system of incentives and penalties.

Liquidity functi o n: capital market provides a mean whereby buyers and sellers canexchange securities at mutually satisfactory prices. This allows better liquidity for thesecurities that are traded.

I ndicative functi o n: A capital market acts as a barometer showing not only theprogress of the company, but also the economies as a whole through pricemovement of securities.

Saving and investment functi o n : capital market provides a mean of quicklyconverting long term investment into liquid funds, thereby generating confidenceamong investors and speeding up the process of savings and investments.

T ransfer functi o n: Capital market facilitates the transfer of existing assets, tangibleand intangible, among individual economics units or groups.

M erger functi o n : Capital market encourages voluntary or coercive take-overmechanism to put the management of inefficient companies into more competent

hands.

INDIAN CAPITAL MARKET EVOLUTION AND GROWTH:

IN the mid-eighties, a metamorphic transformation involving multidimensional growth hastaken place in an otherwise dormant Indian financial system. The magnitude of growthcould be gauged in massive jumps in funds mobilization, the turnover on the stockexchanges, the amount of market capitalisation and the expansion of investor population.The evaluation in the realm of capital market in India could be broadly discussed as follows :

I nfrastructure stage:

The period between 1947 and 1973 was the period of the development of infrastructure for capital market. The stage saw the process of strengthening of capitalmarket through the establishment of a network of development financial institution such asIFCI (1948), ICICI (1955), IDBI and UTI (1946), SFC and SIDCs (during the sixties and early


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seventies). Capital market functions were legislated during this period. This include : Capitalissues (control) Act 1947, Securities contract (regulation) Act 1956 and companies Act 1956.

N ew I ssues Stage:

This stage heralded the enactment of the foreign exchange regulation Act (FERA)between the period 1973 and 1980. Under this Act, shareholding of foreign firms in jointventures was restricted to 40 percent if company want to be recognised as Indiancompanies. Multinational companies offering their equities to the public at a relatively low

price. This encouraged a large number of domestic public limited companies to come outwith the offer of new capital issues for public subscriptions.

Th e SEBI stage:

This stage of development during the period between 1980 and 1992 brought aboutrapid changes in the Indian capital market. This period marked a period of change ,

signifying the widening and deepening of the market. Debenture emerged as powerfulinstrument of resources mobilization in the primary market. There is a phenomenal increasein the listed companies with a quantum jump in their paid up capital and marketcapitalization.

New financial services such as credit rating, etc come to introduced. Several credit ratinginstitution such as CRISIL, CARE AND ICRA were set up in order to hel p investor to make aright choice of investment. Similarly, stock Holding Corporation of India, TDICI, RCTC andTFCI were also constituted as specialised financial institutions.

During this period was the constitution of a number of committees in order to suggestmeasures to revamp and restructure the working of the secondary market and causebuoyancy in the primary market. These include the following :

A committee on organisation and management of stock exchange, 1986 under thechairmanship of Mr.G.S.Patel

A working group on the development of the capital market, 1989 under thechairmanship of Dr. Abid Hussain.

A study group for guidelines relating to valuation and new instruments, 1991 underthe chairmanship of Mr.M.J.Pherwani.

A committee on trading in public sector bonds and units of mutual funds, 1992under the chairmanship of Mr. S.S.Nadkarni.

A number of recommendations of the above committee were implemented to helpstreamline the operation of the capital market. SEBI has been forcing its attention on policy-

making, based on wider consultation through the mechanism of a number of committees toexamine the various aspects/segment of the capital market.


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TH E STRUCTUR A L TR A N SFORM A TI ON :

IN 1992 many technological innovation on par with the develope d countries of theworld began to be introduced in the realm of trading operations in the Indian stock market.Some of the significant forces/ happening that were responsible for the structural

transformation were:

Financial sector liberalisation Computerised online trading Constitution of a depository Disinvestment by government O pening up of the market for portfolio investment Global recessionary trend Entry of new institution Growth in saving of households

Introduction of innovative financial instruments Measures initiated by the government

SEBI issued separate set of guidelines for different categories of intermediaries such asbrokers/sub-brokers, merchant bankers, registrars to issues, portfolio managers,underwriters to issues, mutual funds, bankers t o issues debenture trustees and venturecapital funds.

CONSTITUENTS OF INDIAN CAPITAL MARKET:

The Indian capital market is composed of :

1) The government securities market

2) The industrial securities market

G o vernment Securities market:

It is the market for government and semi-government securities. An importantfeatures of the securities traded in this market is that they are stable in value and are muchsought after by banks. Some of the features of government securities m arket are as follows :

Guaranteed return on investments

No speculation in securities

Institutional based investor which are compelled by law to invest a portion of their

funds in these securities.


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Predominated by such institutions as LIC, GIC, the provident funds and the

commercial banks

INDU STRI A L SE CURITI ES M A RK E T :

The market of industrial securities is known as industrial securities market. It offersan ideal market for corporate securities such as bonds and equities. Industrial securitiesmarket compromises of the following segments :

Primary marketSecondary market

P RIM A RY M A RK E T :

Primary market also known as new issues market (NIM) is a market of raising freshcapital in the form of shares and debentures. Corporate enterprises wh ich are desirous of

raising capital funds through the issue of securities, approach the primary market. Theprimary market allows for the formation of capital in the country and accelerated industrialand economic development.

Modes of raising capital in the primary market are as follow :

1) Public issues : where the securities are issued to the member of the general public, ittakes the form of public issue. It is most popular method of raising long term funds

2) Right issues : where the issue of equity shares of a body corporate is made to the existingshareholders as a pre-emptive right, it takes the form of right issue . Under this method

additional securities are offered for subscription to the existing shareholders.

3) Private placement : where the shares of a body corporate are sold to a group of smallinvestors, it takes the form of private placement .

SE C OND A RY M A RK E T :

A market, which deals in securities that have been already issued by companies, isknown as the secondary market. It is also called the stock exchange or the share market.The importance of the secondary market springs from the fact that it acts as the basis uponwhich rests the edifice of the primary market. This is because the secondary market offersan important facility of transfer of securities.

Stock Exchanges : The activities of buying and selling of securities in the secondary marketare carried out through the mechanism of stock exchanges. Stock exchanges form anintegral part of the secondary market in India. There are 24 stock exchanges in Indiarecognized by the government. Stock market operating at the national level known as O verthe counter exchange of India ( O TCEI) which has been established to give a major fillip to


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the capital market. It aims at helping small and start-up companies to overcome theproblem of raising capital through public issues at exorbitant cost. It also helps investors toovercome the problems of illiquidity, inaccessibility, delayed settlement and transfers thatare abound with the traditional stock exchanges.

REGULATION OF INDIAN CAPITAL MARKET:

Indian capital market has been regulated under a regulatory framework. Theregulatory of capital market are discussed below :

U nder SEB I A ct:

Securities Exchange Board of India was set up on April 12, 1988 as a non statutorybody with the chief objective of protecting the interest of investors in securities and forprompting the development and the regulation of the securities market in India. Some of the SEBI function is following :

Regulating the business in stock exchange and any other securities markets.

Promoting and regulating self regulatory organisation

Registering and regulating the working of collective investment schemes including

mutual funds.

Promoting investor s education and training of intermediaries of securities market Conducting research of the market.

Regulating substantial acquisition of shares and takeover of companies.

Prohibiting fraudulent and unfair trade practices relating to securities market

SEBI has identified the following areas for focusing its attention for the overall growth andthe development of the stock market in India. The activities are pointed below :

Registration of brokers

Authorization of merchant bankers

Control over mutual funds Issue of insider trading regulations

Issue of portfolio managers regulations Issues of guidelines for disclosure and protection

Surveillance

Clearing house.


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U nder t h e BSCC A ct:

In January 1926, the Bombay Securities control (BSCC) Ac t 1926 was enacted.The Act provides the government, power to grant recognition to a stock exchange orwithdraw recognition as it thought fit. The BSCC Act 1926, remained in force until the

securities contract regulation act was promulgated in 1957, but it has no significant effecton securities trading.

U nder t h e C apita l I ssues c o ntr o l A ct, 1947:

Its objectives were as follows :

To channelize the balanced investment of resources in accordance with objectives of the five year plan.

To direct and distribute public issues of capital in a balanced manner To regulates the capital organization plans of companies including mergers and

amalgamations necessitating issue of capital.

U nder t h e Securities C o ntracts ( Regu l ati o n) A ct, 1956:

The act provides the following power :

Granting recognition of stock exchange

Furnishing periodical returns

Power of recognized stock exchange to make rules restricting voting right.

Power of central government to direct rules to be made or to make rules.

Power to prohibit members to act as principal in certain circumstances. The Act provided license to dealers in securities in certain areas.

U nder t h e Securities c o ntract( R egu l ati o n)R u l es, 1957:

These were the rules framed for facilitating efficient and safe trading at the st ockexchanges. The rules pertain to the following :

Procedures to be followed for the recognition of stock exchanges Requirement of listing of securities

Inquiry into the affairs of recognized stock exchange and their members Submission of periodical returns and annual returns by recognized stock exchange.


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U nder t h e c o mpanies A ct,1956:

The companies Act is voluminous and was enacted with the explicit objectives of controlling and regulating every conceivable facet of the corporate sector. The co mpaniesAct of 1956 consist of thirteen parts and fourteen schedules, part VI has eight chapters

while part VII has five chapters. Some of the important provisions as pertaining to the Indiancapital market are Part I, Part II, Part III, Section 55 to 68, section 77 etc.

There are some c o mmittees has formed for regulatory framework in the Indian capitalmarket. The committee are as follow;

The G.S.Patel committee

The Narasimham committee

The M.J.Pherwani committee (1991)

The Malegam committee (1995)

RECENT TRENDS IN CAPITAL MARKET:

The recent years witnessed significant reforms in the capital market. It is well known

that trading platform has become automatic, electronic, anonymous, order -driven, nation-wide and screen-based. Shouting and gesticulations have yielded place to punching andclicking. Speed and efficiency are the hallmark of the current system. Across the system,multitude of market participants trade with one another anonymously and simultaneously.O n any trading day, more than 10,000 terminals come alive, in 400 towns and cities;

information is flashed on real time basis. Equal opportunity is provided for all concerned toaccess the information. Transparency is ensured in respect of dissemination of information,price and quantum of the order; but, member s identity is sought to be hidden to preventany bias in response. Today, a trading member need not wend his way to the JeejeebhoyTower in Dalal Street, Mumbai or to any stock exchange building elsewhere; he can

comfortably sit at his computer terminal and execute the order. Laptops, palmtops andhand mobiles, in fact, challenge the relevance of the brick and mortar.

An investor, today, need not wait, with his fingers crossed, for a fortnight or more, forgetting crossed cheques or crisp notes for the sale proceeds of his securities. The tradingcycle has been shortened to T+2. This shortening of the cycle has been done in a phased

manner but in a rapid succession from T+5 to T+3 to T+2, all in a matter of two years.


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Another material development, which proved to be of immense relief to the investors, wasdematerialisation of the scrips. Now 99% of the scrips in the market are dematerialised.Almost 100% of the trades are in D -mat form. Inconvenience of physical custody and

transfer, tedium of intimating change of address and problems of bad delivery, late delivery,non delivery and the risks of forgery and frauds have virtually disappeared or shall I say -

have been dematerialised! The benefit is relished but not the cost. We should bear in mindthe maxim no cost, no benefit. There is no free lunch in this world. Still, there is nodenying the fact that there could be a possibility for reduction in the cost; such possibilities

are explored.

At the stock exchanges, robust risk management system has been put in place, Value-at-riskmargining and exposure limits, on-line monitoring of margins and positions, ClearingCorporation and Settlement Guarantee Fund mechanism for trade settlement all thesehave made Indian capital market now arguably world class, in terms of transparency,efficiency and safety.

Antiquated and abused badla system or ALBM stands abolished. In its place, for hedging andtrading purposes, a number of derivatives in the form of futures and options, both in dex-based and stocks-specific have been introduced. The sophistication of these products havenot scared away our brokers and investors. Instead, with their native intelligence, they areas comfortable in the F& O Quarter as a fish in the water. The vibrancy of F& O segment has

surpassed the cash segment in terms of daily turnover within a short period.

Corporate bonds and Government Securities used to be traded via telephone exchange. A

beginning has been made for their trading on the stock exchange now. As is natural, theweaning takes time!

O ur accounting standards are already principle-based; they have been aligned with

international standards almost in all aspects, barring one or two. O ur disclosurerequirements, both initial and continuing, are on par w ith global practices.

The corporate governance and corporate performance do reflect and get reflected in theconditions of capital market. As a market regulator and protector, SEBI is concerned withcorporate governance practice on an ongoing basis. According to the Economic Intelligence

Unit Survey of 2003 regarding corporate governance across the countries, Top of thecountry class, as might be expected, was Singapore followed by Hongkong and, somewhatsurprisingly, India. It is significant to note tha t Singapore and Hongkong claiming the toppositions, was not a matter of surprise, but India coming as third, surprised the world! Itshall be our collective endeavour to eliminate the surprise element . As part of itsendeavour towards continual improvement, SEBI has got corporate governance code and

practice reviewed, by Narayana Murthy Committee. The Committee s recommendations for


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refinement were evolved through consultative process, transparent deliberations anddemocratic approach. These were posted on SEBI s website for 21 long days. Thereafter,they were got incorporated in Clause 49 of Listing Agreement. No sooner was this done, the

corporate quietitude was disturbed and a spate of representations followed. The threemajor aspects, which disturbed the corporate, related to definition of independent

directors, their nine-year term and whistle blowing policy.

In the ultimate analysis, however, more than the rules and regulations, codes and principles,the change of mindset are called for. Good Corpora te Governance is, after all, an ethicalprinciple and value-proposition. Today, it is realised that ethics and business do mix and mixwell. I am given to understand that there is empirical evidence to establish causalrelationship between good Corporate G overnance and sustained corporate performance.Two Credit Rating Agencies have come up with their own methodology to rate thecorporate according to their governing standards, linking it with wealth creation,management and distribution. Is rest assured, such a rating is not mandatory But, may be, in

course of time, the market and economic compulsions would make it a preferred option.

During the last one year, Indian capital market has been regaining its buoyancy. Globallyrecognised economic fundamentals of the country and widely perceived robustness of theIndian Capital Market system have gradually restored the confidence of the investors, globaland local, in the Indian market, to a substantial degree. During the last one year, the sensex

has risen by over 75%. The Indian capital market has outperformed many in the world. Moreimportantly, the primary market too has perked up. The depth and liquidity of the marketand its absorbing capacity has been indisputably proven. The fear of failure of PSU

disinvestments turned out to be unfounded. Some mistakes have occurred. To err is humanand occasional systemic fault / fatigue is not uncommon. Mistakes may happen and do

happen; but they should not lead to paralysis, panic and cynicism; nor should they beallowed to be exploited. Mistakes if any should be rectified and rectified quickly and theirrecurrence prevented. If by ignorance, one mistakes, by mistake one should learn.

However sophisticated, efficacious, fail-proof a system or technology may be, humanintervention is inevitable, for, the system is manned, managed or used by human beings.

Human nature being what it is, and as the human ingenuity knows no bounds, constantregulatory surveillance and prompt action is necessary. That is what SEBI is trying to do.Armed with statutory authority and consumed by missionary zeal, SEBI keeps vigil, clampsdown appropriate surveillance actions. Any market misconduct or manipulation are soughtto be dealt with severely in the interest of the market and the investors. Investigations intoallegations of manipulations etc. are getting speeded up and necessary regulatory action is

taken, without bias or prejudice, with no fear or favour. At times, the action may turn out tobe deterrent in nature, as circumstances warrant.


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A few more things are on the anvil. Margin trading and securities lending have beenintroduced with adequate checks and balances. The Central Listing Authority has becomeoperational to provide an independent entry-point scrutiny of the corporate to be li sted.

Straight through Processing will get broadened market wide in another 3 month s time. TheCentral Registry of market intermediaries and professionals with unique identification

number is under construction. And, when RTGS is being ushered in, T+1 set tlement cannotbe far behind! Structural consolidation, infrastructural improvements, product -innovation,refinement of regulations, and integrated surveillance should be some of the thrust areas

for planned action in the days ahead. Integrated Market Infrastructure.

With the traditional barriers for exchanges disappearing, financial markets are moving into aunique phase of consolidation and fragmentation resulting from globalized and next

generation exchanges.

This transformation has increased the need for better matching systems and pricing, fasterexecutions, lower latencies and tariffs, and innovative differentiators.

Technology has played a key role in providing a level playing field in markets over the last 20years, and in making capital markets more transparent, safe and accessible.

Against this background, we can say that using robust, sophisticated capital marketinfrastructure technology will enable financial markets to emerge stronger.

Notes on Capital Market

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