Introduction to Capital Markets: The Engine of Economic Growth

Introduction: Where Savings Meet Investments

“Capital markets connect those who have money with those who need it.”

Every time Reliance raises funds through a rights issue, or when HDFC Bank issues bonds, or when you buy shares of TCS—you’re participating in capital markets. These markets form the backbone of economic development, channeling savings into productive investments.

What Are Capital Markets?

Definition

Capital markets are financial markets where long-term debt or equity-backed securities are bought and sold. They channel savings and investment between suppliers of capital (investors) and users of capital (companies, governments).

Key Characteristics

Capital Markets vs Money Markets

Types of Capital Markets

Primary Market

Definition: Where new securities are created and sold for the first time.

Functions:

• Raises fresh capital for companies
• Government borrowing
• First-time price discovery

Key Mechanisms:

Secondary Market

Definition: Where existing securities are traded between investors.

Functions:

• Provides liquidity to investors
• Continuous price discovery
• Enables exit for primary investors

Venues:

• Stock exchanges (BSE, NSE)
• OTC markets
• Electronic trading platforms

Relationship Between Primary and Secondary

Company → Primary Market → Investors
                ↓
         Secondary Market
         ↓            ↓
    Buyer ←→ Seller

Why Secondary Markets Matter for Primary:

• Liquidity attracts IPO investors
• Market prices guide new issue pricing
• Exit route encourages investment

Equity Markets

What Is Equity?

Ownership interest in a company. Equity holders are residual claimants—paid after all debts are settled.

Types of Equity Instruments

1. Common Stock (Equity Shares)

• Voting rights
• Variable dividends
• Last claim on assets
• Unlimited upside

2. Preference Shares

• Fixed dividend
• Priority over equity
• Limited voting rights
• Call provisions common

Indian Equity Market Overview

Key Indices

Debt Markets

What Is Debt?

Fixed income securities representing loans to the issuer. Debt holders are creditors with priority claim on cash flows and assets.

Types of Debt Instruments

1. Government Securities (G-Secs)

• Issued by Central/State governments
• Sovereign guarantee
• Benchmark for other rates
• Traded on NDS-OM

2. Corporate Bonds

• Issued by companies
• Rated by credit agencies
• Higher yield than G-Secs
• Traded on exchanges/OTC

3. Debentures

• Secured or unsecured
• Convertible or non-convertible
• Various maturity profiles

Indian Debt Market Overview

Corporate Bond Market

Rating Distribution:

• AAA: ~60% of issuances
• AA: ~25%
• A and below: ~15%

Key Challenge: Dominated by top-rated issuers; limited depth for lower ratings.

Market Participants

Issuers (Supply Side)

Investors (Demand Side)

Intermediaries

Market Infrastructure

Stock Exchanges

BSE (Bombay Stock Exchange)

• Asia’s oldest (1875)
• ~5,500 listed companies
• Sensex benchmark

NSE (National Stock Exchange)

• Established 1992
• ~2,200 listed companies
• Dominant in derivatives

Depositories

NSDL (National Securities Depository Limited)

• Established 1996
• Larger by value

CDSL (Central Depository Services Limited)

• Established 1999
• Larger by number of accounts

Functions:

• Dematerialization of securities
• Settlement of trades
• Corporate actions processing

Clearing Corporations

Role: Guarantee settlement, manage counterparty risk

Regulatory Framework

SEBI (Securities and Exchange Board of India)

Established: 1988 (statutory powers 1992)

Objectives:

1. Protect investor interests
2. Develop securities market
3. Regulate market participants

Key Powers:

• Registration of intermediaries
• Rule-making
• Inspection and investigation
• Adjudication and penalties

Key Regulations

Other Regulators

Capital Market Development in India

Historical Evolution

Recent Trends

1. Retail Participation Surge

• Demat accounts: 4 crore (2020) → 14 crore (2024)
• Driven by digital platforms, pandemic savings

2. IPO Boom

• 2021-2023: Record IPO activity
• New-age tech companies listing
• Government disinvestment

3. Passive Investing Growth

• ETF AUM growth
• Index funds popularity
• Lower costs driving adoption

4. Bond Market Development

• Corporate bond market growth
• Retail access via apps
• RBI Retail Direct for G-Secs

Benefits of Capital Markets

For the Economy

1. Capital Formation: Channels savings to investment
2. Resource Allocation: Directs funds to productive uses
3. Price Discovery: Determines fair value
4. Risk Transfer: Enables risk sharing

For Companies

1. Access to Capital: Large-scale funding
2. Lower Cost: Cheaper than bank loans (sometimes)
3. Visibility: Enhanced brand and credibility
4. Currency for M&A: Stock as acquisition currency

For Investors

1. Wealth Creation: Long-term appreciation
2. Liquidity: Easy entry and exit
3. Diversification: Multiple options
4. Income: Dividends and interest

Challenges and Future

Current Challenges

Future Developments

• Technology: AI, blockchain applications
• Inclusion: Smaller town penetration
• Products: Green bonds, REITs, InvITs
• Integration: GIFT City, global access

Key Takeaways

1. Two markets: Primary (new issues) and secondary (trading)
2. Two segments: Equity and debt
3. Multiple participants: Issuers, investors, intermediaries
4. Strong infrastructure: Exchanges, depositories, clearing
5. SEBI oversight: Comprehensive regulation
6. Growing retail participation: Democratization of investing
7. Economic engine: Channels savings to investment

Disclaimer

This article is for educational purposes only. Capital market investments are subject to market risks. Read all scheme-related documents carefully before investing. This is not investment advice.

Frequently Asked Questions

Q: What’s the difference between primary and secondary market? A: Primary market is where new securities are issued (IPOs, FPOs). Secondary market is where existing securities trade between investors (stock exchanges). Companies raise money in primary; investors trade in secondary.

Q: Why are capital markets important? A: They connect savers with borrowers, enable efficient capital allocation, provide liquidity, and facilitate price discovery. Without capital markets, funding long-term projects would be difficult.

Q: How are Indian capital markets regulated? A: SEBI is the primary regulator for securities markets. RBI regulates G-Secs and money markets. IRDAI and PFRDA oversee insurance and pension investments respectively.

Q: Can retail investors participate in G-Secs? A: Yes, through RBI Retail Direct (direct G-Sec purchase), Gilt mutual funds, or stock exchanges (for listed G-Secs).

Q: What’s the minimum investment in capital markets? A: You can start with as little as ₹500 in mutual funds. Direct equity requires minimum lot size (often 1 share). G-Secs via RBI Retail Direct have ₹10,000 minimum.

Capital markets are like a vast bazaar where money changes hands—some bring money seeking returns, others bring opportunities seeking capital. The efficiency of this bazaar determines how well an economy allocates its resources and grows.