Financial Market — UPSC Economy Notes

Overview

Financial market acts as a link between investors and borrowers.

It includes individual investors, financial institutions, banks, stock exchanges, and intermediaries.

Any place or platform where financial transactions happen is considered a financial market.

It may involve issuing new financial assets (like IPO of shares or bonds) or trading existing ones.

Functions of Financial Market

Mobilisation of Savings: Helps channel savings into productive investments, giving savers multiple investment options.

Facilitating Price Discovery: Demand (by businesses) and supply (from households) determine asset prices.

Providing Liquidity: Makes it easy to buy or sell financial assets, ensuring they can be converted into cash when needed.

Reducing Transaction Costs: Provides a central platform with information, saving time, money, and effort for both buyers and sellers.

Types of Financial Market

Money Market: Provides short-term funds (up to 364 days). Examples: Treasury Bills, Commercial Papers, Certificates of Deposit.

Capital Market: Provides medium to long-term funds (more than 1 year). Examples: Equity shares, Debentures, Bonds.

Both markets serve different financial needs of businesses and individuals.

Overview

The money market deals with short-term funds, ranging from overnight to 1 year.

In India, it includes Reserve Bank of India (RBI), commercial banks, cooperative banks, financial institutions, and certain NBFCs.

RBI is the leader of the Indian money market, managing liquidity and interest rates.

Other participants include LIC, GIC, and financial institutions that provide and absorb funds.

Functions of Money Market

Facilitating Short-term Borrowing & Lending: Provides a platform for banks and corporates to borrow and lend funds for short durations (like 7–14 days). Example: Certificates of Deposit (CDs).

Providing Liquidity: Ensures that banks, companies, and financial institutions can access short-term funds to meet immediate cash requirements.

Determining Short-term Interest Rates: Supply and demand in the money market influence borrowing and lending rates. Example: RBI issues Treasury Bills (T-Bills) of 91, 182, 364 days to set a benchmark.

Offering Investment Opportunities: Provides safe and liquid investment instruments such as T-Bills, Commercial Papers (CPs), CDs, and repo transactions. Example: Companies issue CPs to investors for short-term funding.

Helping Government Finances: The Government of India issues T-Bills to raise short-term funds to meet expenses or temporary cash shortages.

Enabling Monetary Policy Transmission: RBI uses the money market to influence liquidity and short-term interest rates through policy tools like Repo and Reverse Repo rates.

Managing Liquidity in Banking System: RBI ensures stability through open market operations (OMO), Liquidity Adjustment Facility (LAF), and repo operations.

Overview

The money market in India has two segments: Unorganised Money Market and Organised Money Market.

Organised Money Market consists of various instruments, one of the most important being 'Call Money'.

Call money refers to short-term borrowing and lending of funds, typically overnight or for a single day, among banks and financial institutions.

It helps banks maintain their daily liquidity and asset-liability balance.

Features of Call Money

Borrowing and lending are done on a daily basis and repaid the same day.

The interest rate charged is known as the Call Rate, which fluctuates depending on demand and supply of funds.

Transactions in the call money market do not require any security or collateral.

It is mainly used by banks to cover short-term mismatches in liquidity.

It is regulated by the Reserve Bank of India (RBI) to ensure efficiency and transparency.

Participation is restricted to banks, financial institutions, and selected eligible NBFCs.

It is considered a risky and volatile segment of the money market.

Example

If Bank A needs funds for just one day, it can borrow from Bank B in the call money market. Bank A repays the loan the same day with interest (call rate).

Notice Money

Short-term borrowing and lending instrument with a maturity of 2 to 14 days.

Interest rate is determined by market forces of demand and supply.

Participation restricted to banks, financial institutions, and selected NBFCs.

Regulated by RBI to ensure fair and efficient functioning.

In 2020, RBI allowed Regional Rural Banks (RRBs) to access the call/notice money market and facilities like LAF and MSF for better liquidity management.

Treasury Bills (T-bills)

Short-term debt instruments issued by the Government of India via RBI.

Considered the safest investment option as they are fully backed by the Government.

Used by government to raise short-term funds to cover temporary mismatches between receipts (taxes, revenues) and expenditure.

Issued at a discount (below face value) and redeemed at par (face value).

They do not carry interest; the return is the difference between issue price and redemption value (discount).

Example: A 91-day T-bill with a face value of ₹100 may be issued at ₹90. At maturity, investor gets ₹100, earning ₹10 as profit.

Treasury Bills (T-bills)

Issued by Government of India via RBI with tenures of 91, 182, and 364 days.

Risk-free, highly liquid, and issued at discount to face value.

No interest is paid; the difference between issue price and face value is profit.

Taxation: Short-Term Capital Gains (STCG) applicable as per investor’s tax slab.

Central Government issues T-bills (short-term) and bonds (long-term); State Governments issue only long-term bonds called State Development Loans.

Features of T-bills

Maximum tenure: 364 days.

Safest instrument since backed by Government.

Tradable in secondary market.

Discounted instrument: profit = face value – issue price.

Cash Management Bills (CMBs)

Introduced in 2010 by RBI on behalf of Government of India.

Purpose: Manage temporary cash-flow mismatches of government.

Similar to T-bills but tenure is up to 90 days.

Issued at discount through auctions.

Qualify as SLR securities under Section 24 of Banking Regulation Act, 1949.

Certificate of Deposit (CDs)

Issued by Commercial Banks and Financial Institutions.

Tenure: Banks = 7 days to 1 year; FIs = 1 to 3 years.

Minimum denomination: Rs. 5 lakhs (in multiples of 5 lakhs).

Issued at discount, redeemed at face value.

Virtually risk-free and transferable.

Eligible issuers: Scheduled Commercial Banks, RRBs, Small Finance Banks.

Eligible buyers: Individuals, corporates, mutual funds, insurance companies.

Commercial Paper (CPs)

Unsecured short-term instrument issued by companies, Primary Dealers, and All-India Financial Institutions (with RBI permission).

Used for raising funds for working capital and business needs.

Example: Company ABC Ltd. issues CPs worth ₹10 crores with 90-day maturity at 6% discount; investors buy below face value and receive full redemption value.

Features of CPs

Maturity: 7 days to 1 year, but within validity of credit rating.

Minimum denomination: Rs. 5 lakhs, multiples thereafter.

Require high credit ratings; only strong companies can issue.

Issued at discount, higher rates than government securities, and tradable in secondary market.

Overview

Trade Bills are financial instruments used to settle trade transactions on credit.

Issued by the seller (drawer) to the buyer (drawee) for payment on a future date.

Once accepted by the buyer, they become negotiable instruments called Bills of Exchange.

If discounted with a bank, the seller receives immediate funds while the bank collects payment from the buyer on maturity.

Process of Trade Bills

1. Buyer purchases goods on credit from seller.

2. Seller draws a trade bill on buyer mentioning the due amount and date.

3. Buyer accepts bill, making it legally binding.

4. Seller can wait until maturity or discount the bill with a bank to get early payment (at a discount).

5. On maturity, buyer pays full face value to the bank.

Example

Company X sells goods worth ₹10 lakhs to Company Y on 60-day credit.

Company X issues a trade bill on Company Y for ₹10 lakhs.

Company Y accepts it, agreeing to pay after 60 days.

Company X discounts the bill with a bank at 8% p.a. and receives ₹9.2 lakhs immediately.

On maturity, Company Y pays ₹10 lakhs to the bank. The bank earns ₹80,000 as profit.

Features of Trade Bills

Issuer: Seller of goods or services.

Acceptance: Buyer agrees to pay specified amount on due date.

Maturity: Generally 30, 60, or 90 days.

Discounting: Bills can be discounted with banks/financial institutions to get funds before maturity.

When banks accept trade bills, they are known as Commercial Bills.

Repo (Repurchase Agreement)

Repo is a short-term borrowing instrument.

Borrower sells securities (e.g., government bonds, corporate bonds, CPs, CDs) to lender with an agreement to repurchase them at a future date and agreed price (includes interest).

The agreed price = principal + interest (cost of borrowing).

Used mainly by banks to manage short-term liquidity needs.

Duration: Minimum 1 day to maximum 1 year (commonly overnight).

Settlement: Repo trades are settled along with outright trades in G-secs.

Platform: All repo transactions are reported on Clearcorp Repo Order Matching System (CROMS).

Reverse Repo

Reverse Repo is the opposite of Repo.

Lender buys securities with an agreement to resell them at a future date and agreed price (principal + interest).

RBI uses Reverse Repo as a monetary policy tool to absorb liquidity from the banking system.

Repo Period

The time duration between sale of securities and repurchase/resale is called Repo Period.

Predominantly overnight, but can extend up to 1 year.

Eligible Participants

Central and State Government securities, listed corporate bonds, CPs, CDs are permitted collateral.

Participants: Banks, Financial Institutions, NBFCs, Insurance Companies, Mutual Funds, Corporates, and others approved by RBI.

Institutions like EXIM Bank, NABARD, NHB, and SIDBI are also eligible.

Triparty Repo (TREPS)

Triparty Repo adds a third entity (Tri-Party Agent) between borrower and lender.

Agent manages collateral selection, custody, payment and settlement.

In India, CCIL (Clearing Corporation of India Ltd.) acts as the Central Counterparty and Triparty Repo Agent.

Triparty Repo Dealing System (TREPS) allows borrowing/lending with settlement T+0 or T+1.

Eligible Participants: Public & Private Banks, Foreign Banks, Co-operative Banks, FIs, Insurance Companies, Mutual Funds, Primary Dealers, NBFCs, Corporates, Pension Funds, Payment Banks, Small Finance Banks etc.

Overview

Financial benchmarks are standard reference rates used to price and settle financial contracts.

They influence everything from personal loans to complex derivatives.

Ensure uniformity, credibility, and integrity of financial markets.

LIBOR (London Interbank Offered Rate)

Global benchmark for short-term interbank borrowing.

It is the average interest rate at which major banks in London lend to each other.

Used for pricing derivatives (interest rate swaps, currency swaps), mortgages, and loans.

Administered by Intercontinental Exchange (ICE).

Computed for 5 currencies: USD, GBP, EUR, JPY, CHF.

Tenures: overnight to 12 months (7 different maturities).

Applications:

Deciding call/notice money rates by global banks.

External Commercial Borrowings (ECBs) for Indian companies abroad.

Controversy:

LIBOR was manipulated and became unreliable.

From 2021, UK regulators and global authorities phased it out.

Replaced by alternative benchmarks: SOFR (USA), SONIA (UK), SARON (Switzerland), TONAR (Japan).

MIBOR (Mumbai Interbank Offered Rate)

Indian equivalent of LIBOR, introduced in 1998 by NSE.

It is the rate at which Indian banks borrow unsecured short-term funds from each other.

Based on inputs from 30 banks and primary dealers.

Used as a reference rate for:

Floating rate notes and corporate debentures.

Term deposits and forward rate agreements.

Overnight indexed swaps (used for hedging interest rate risks).

Two related benchmarks: MIBOR (offer rate) and MIBID (bid rate).

Overview

Unorganised money markets are not directly regulated by RBI, but they are legally recognized by the government.

These institutions and individuals have historically provided credit and savings facilities in rural and semi-urban India.

They fill the gap for people who do not have easy access to formal banking channels.

Categories of Unorganised Money Market

1. Unregulated Non-Bank Financial Intermediaries

These include chit funds, Nidhi companies, and loan companies.

Chit Funds

Popular saving and borrowing institutions in India, especially among lower and middle-income groups.

Function: A group of people contribute money periodically. Each month, the pooled amount is given to one member through an auction or draw.

Governed by the Chit Funds Act, 1982.

Example: 100 members contribute ₹100 each. Monthly pool = ₹10,000. The winning bidder gets the prize amount (after discount and foreman’s commission), and the discount is distributed among all members.

Nidhi Companies

Aim: Promote thrift and savings among members; operate only for mutual benefit.

Registered under the Companies Act, 2013; regulated by Ministry of Corporate Affairs and partly by RBI.

Borrowing and lending allowed only between members.

Amendments (April 2022): Public company set up as Nidhi (₹10 lakh share capital) must get Union Government declaration before functioning.

Rules:

Minimum 200 members within one year of incorporation.

Minimum net owned funds = ₹10 lakhs.

Lending cannot exceed 25% of net owned funds.

Deposits cannot exceed 20 times net owned funds.

Loan Companies

Provide loans to individuals and small businesses outside the formal banking structure.

Often operate with limited regulation and transparency.

2. Indigenous Bankers

Individuals or private firms functioning like banks.

They accept deposits and provide loans, especially in rural and semi-urban areas.

Operate without strict regulatory oversight, but play a role in local credit supply.

3. Moneylenders

The most localized and informal form of the money market.

Provide small loans quickly, often without documentation.

Known for exploitative practices with very high interest rates.

Continue to exist in villages and small towns where formal credit is absent.

Overview of Capital Market

Capital market is a well-organised market for long-term funds, dealing in equity and debt instruments.

It mobilises funds efficiently by connecting savers (households, investors) with borrowers (industry, business, government).

Instruments: equity shares, preference shares, bonds, debentures issued by corporates, government bodies, and semi-government organisations.

It plays a vital role in economic growth by channeling savings into productive investments.

Components: Primary Market and Secondary Market.

Primary Market (New Issue Market)

The market where new securities are issued and sold for the first time.

Companies raise funds directly from investors through mechanisms such as public issues, private placements, rights issues, and preferential allotments.

Functions:

Helps companies raise capital for setting up projects, expansion, diversification, modernisation, or mergers and takeovers.

Mobilises funds directly from banks, insurance companies, mutual funds, financial institutions, and individuals.

Example: Startups raising equity funding from investors (e.g., Zomato raised US250 million in 2021 from 5 investors at a valuation of US5.4 billion).

IPO (Initial Public Offering): After raising capital privately, companies may choose to list their shares on the stock exchange through an IPO to generate more liquid capital.

Once securities are issued in the primary market, they become tradable in the secondary market.

ASBA (Application Supported by Blocked Amount): in a public issue the application money stays in the investor's bank account (only blocked) until allotment, so no refunds are needed; it is mandatory for IPO applications (retail investors can also block funds through UPI).

Initial Public Offer (IPO)

IPO is the process by which a private company goes public by offering its shares to the general public for the first time.

Conducted in the primary market and underwritten by investment banks.

Companies must meet stock exchange and securities regulator (SEBI in India, SEC in USA) requirements.

Purpose: Raise capital for business growth, repayment of debt, or expansion.

Example:

Zomato (2021): Raised ₹9,375 crore (1.3 billion) at ₹76/share.

SBI Cards (2020): Raised ₹10,355 crore (1.4 billion) at ₹755/share.

Indian Railway Finance Corporation (2021): Raised ₹4,633 crore (626 million) at ₹26/share.

Follow-on Public Offer (FPO)

When a company that has already issued an IPO raises additional capital by issuing more shares to the public.

Helps the company mobilize more funds after its initial listing.

Target: Existing investors and new investors in stock exchange.

Preferential Issues

Company (listed or unlisted) issues shares or convertible securities to a select group of investors (not to general public).

Preferential shareholders have higher claim over company assets compared to common shareholders in case of liquidation.

Generally, preferential shares do not have voting rights but carry fixed dividends.

Examples:

Tata Steel (2020): Preferential issue of ₹7,000 crore shares at 10% discount to Tata Sons and other investors.

Reliance Communications (2018): Raised ₹537.67 crore at ₹13.65/share, 8% premium to market price.

Rights Issue

A listed company offers new shares to its existing shareholders at a discounted price.

Rights are offered in proportion to the investor’s existing holdings.

Unlike IPO, it is not offered to the general public.

Helps companies raise capital while protecting rights of current shareholders.

Secondary Market – Overview

Secondary market is the market for trading existing securities like shares, bonds, and debentures.

Investors can sell their securities (disinvestment) or purchase new ones (investment).

Provides liquidity and marketability to securities.

Ensures continuous flow of funds in the economy by reallocating capital towards productive investments.

Operations are regulated by SEBI for fair trading, clearing, and settlement.

Instruments in Capital Market – Shares

A share is the smallest unit into which a company’s total capital is divided.

Shareholders are owners of the company in proportion to their shareholding.

They receive dividends as returns, but also bear losses if share prices fall.

Example: If a company needs ₹100 crore, it may issue 10 crore shares of ₹10 each. An investor buying 1 crore shares (₹10 crore) owns 10% of the company.

Types of Shares

Equity Shares (Ordinary Shares)

Represent ownership in the company with voting rights.

Dividends are variable and depend on company’s profits and policies.

Shareholders can attend AGMs and participate in decision-making.

Equity holders are the last to receive payout if the company liquidates.

Higher risk as returns depend on company’s performance and market price.

Example: If ABC Ltd. issues 10,000 equity shares at ₹10 each (₹1,00,000 total), investors may buy them at ₹20/share in the market. A person buying 100 shares spends ₹2,000 and gets voting rights and dividends based on profits.

Preference Shares

Shareholders receive fixed dividends before equity shareholders.

Have preference in payout during liquidation of the company’s assets.

Usually do not carry voting rights, so not part of company management.

Provide stable returns but less risk compared to equity shares.

Not commonly traded in the stock market due to fixed nature.

Example: XYZ Ltd. issues 1,000 preference shares at ₹100 each (₹1,00,000 total). With an 8% dividend rate, each share gives ₹8 dividend annually before equity shareholders receive any payout. In case of liquidation, preference shareholders are paid before equity holders, but after creditors.

Overview

Derivatives derive their value from an underlying asset (like wheat, stocks, gold, or currencies).

Value, risk, and function of a derivative depend on the underlying asset’s performance.

Widely used in developed economies, but increasingly important in emerging markets.

Can be traded either on regulated exchanges (transparent, standardized contracts) or over-the-counter (OTC, customized contracts).

Uses: Hedging (reducing risk), Speculation (profit-making on price changes), and Arbitrage (taking advantage of price differences).

Example of a Derivative

A farmer fears that wheat prices may fall in 3 months. To protect himself, he enters into a futures contract with a trader to sell wheat at today’s agreed price in 3 months.

If prices fall, the farmer is protected as he will still sell at the agreed higher price. If prices rise, he loses potential extra profits but ensures minimum guaranteed price.

The futures contract here is a derivative since its value depends on the price of wheat (the underlying asset).

Types of Derivatives

1. Futures

A futures contract obligates the buyer to purchase and the seller to sell the underlying asset at a fixed price and date in the future.

Standardized and traded on exchanges.

Example: A farmer agrees to sell 1,000 bushels of corn at 5 per bushel in 3 months. If corn prices fall to 4, farmer is protected. If prices rise to 6, farmer misses extra profit but is secured at 5.

2. Options

An option gives the holder the right (but not obligation) to buy or sell an underlying asset at a pre-decided price (strike price) on or before a future date.

Two types:

CALL Option: Right to BUY at strike price.

PUT Option: Right to SELL at strike price.

Buyer pays a premium to the seller (writer) of the option.

Example: A trader holds 1,000 shares worth ₹100 each but fears prices may drop. He buys a PUT option with strike price ₹90, paying ₹2 premium/share. If share price drops below ₹90, he can sell at ₹90 and limit his loss. If price stays above ₹90, he loses only the premium paid (₹2,000 total).

Forwards

A forward contract is a binding agreement between two parties to buy or sell an asset at a predetermined price and date in the future.

Unlike options, forwards are obligations for both parties and cannot be cancelled.

They are over-the-counter (OTC) contracts, meaning they are private agreements and not traded on exchanges.

Commonly used by companies and importers/exporters to hedge against price fluctuations in commodities, currencies, or raw materials.

Example

A U.S. company plans to buy raw materials from an Indian supplier in 6 months. Current price = ₹10,000/ton.

Company signs a forward contract to buy 1,000 tons at ₹10,000/ton in 6 months.

If price rises to ₹12,000/ton, company saves ₹2,000/ton. If price falls to ₹8,000/ton, company pays more but contract is binding.

Thus, forward contract helps lock-in prices and manage risk but can cause losses if market moves favorably.

Swaps

A swap is a derivative where two parties exchange cash flows or liabilities, often based on interest rates, currencies, or commodities.

They are over-the-counter (OTC) contracts, customized to the needs of the parties.

Common types: Interest rate swaps, Currency swaps, Commodity swaps.

In India, swaps are not used in equity markets. RBI permits non-retail users to buy credit default swaps (2013 guidelines).

Example: Currency Swap

India and the UK enter into a currency swap.

India receives 100 million GBP, while the UK receives 110 million worth INR (implying 1 GBP = 1.10 INR for the deal).

Both countries loan each other money in their respective currencies and agree to repay later at the same exchange rate.

This helps them avoid currency fluctuation risks and ensures predictable repayment costs.

Overview

A Bond represents a loan made by an investor to a borrower (corporate, municipality, or government).

It has fixed maturity period and a predetermined interest rate (called coupon).

Bonds are debt instruments, so bondholders are creditors and not owners of the company (unlike shareholders).

They are considered safer than shares as they guarantee fixed interest, though profits are capped.

Common issuers: Companies (Corporate Bonds), Municipalities, State Governments, Central Government (Sovereign Bonds).

Example

A corporation issues a bond of face value ₹1,000 with 5% annual coupon for 5 years.

Investors buy the bond for ₹1,000. Each year, company pays ₹50 interest.

At maturity (5 years), company repays ₹1,000 principal. Investor receives total ₹1,250 (₹1,000 principal + ₹250 interest).

Thus, bonds provide predictable income but no ownership or voting rights.

Features of Bonds

Face Value: Value paid back to bondholder at maturity.

Coupon Rate: Fixed or variable interest rate issuer pays to bondholder.

Tenure: Period after which bond matures and principal is repaid.

Security: Some bonds are secured against company’s assets; others are unsecured.

Liquidity: Bonds can often be traded in secondary markets.

Type of Bond Instrument

Coupon Bonds

Coupon = interest payment on bonds.

Some bonds have detachable coupons (Coupon Bonds).

Investor presents coupon to issuer to claim interest.

Example: A ₹100 bond with 2% coupon has detachable coupons worth ₹2 each year. Investor presents coupon to receive return.

Zero-Coupon Bonds

Bonds that pay no periodic interest.

Sold at a discount and redeemed at face value on maturity.

The difference between issue price and redemption value is the investor’s return.

Example: A ₹100 bond sold at ₹95 and redeemed at ₹100. Investor earns ₹5 at maturity.

Municipal Bonds

Debt securities issued by city municipal corporations to raise funds for public infrastructure projects.

Used for financing schools, hospitals, highways, water treatment plants, etc.

Example: Vadodara Municipal Corporation raised ₹100 crores via municipal bond in March 2022.

Sovereign Bonds

Bonds issued by a government to meet its expenditure or fund specific projects.

Considered very safe as they are backed by the full faith and credit of the issuing government.

Pay fixed interest annually and principal at maturity.

Example: U.S. Treasury Bond, Japanese Government Bond, or Indian Government Bond.

Sovereign Gold Bonds (SGBs)

Government securities denominated in grams of gold; introduced in 2015 under Gold Monetisation Scheme.

Substitutes for holding physical gold, with added benefits like interest income.

Features:

Issued by RBI on behalf of Government of India.

Denominated in multiples of 1 gram of gold (minimum investment = 1 gram).

Tenure = 8 years with exit option in 5th, 6th, and 7th year.

Maximum investment: 4 kg for individuals & HUFs; 20 kg for trusts.

Purchase via cash (up to ₹20,000), cheque, DD, or electronic banking.

Issued as Government of India Stocks under the Government Security Act, 2006.

Eligible for Demat conversion, tradable on stock exchanges, and usable as loan collateral.

Green Bonds

Debt instruments issued to raise capital for environmentally sustainable projects.

Typical projects: renewable energy, clean transportation, sustainable water management.

Can be issued by governments, corporations, or financial institutions.

Example: India plans to issue sovereign green bonds to achieve carbon neutrality goals.

Blue Bonds

Debt instruments to fund marine and ocean-related projects.

Issued by governments or development banks to support blue economy (sustainable use of ocean resources).

Example: Seychelles launched world’s first sovereign blue bond to expand marine protected areas.

In 2022, SEBI proposed blue bonds for India to finance projects like sustainable fishing, offshore wind energy, and ocean mining.

Social Impact Bonds (SIBs)

Also called pay-for-success bonds.

Contract with public sector authority – investors get returns only if specific social outcomes are achieved.

Aim: improve welfare and social outcomes for targeted groups.

Example 1: Women’s Livelihood Bond (WLB) by World Bank, UN Women & SIDBI to support rural women entrepreneurs.

Example 2: 'Educate Girls' Development Impact Bond (2015, Rajasthan) improved education for 15,000+ girls and exceeded targets (116% enrolment, 160% learning).

Inflation-Indexed Bonds (IIBs)

Government-issued bonds that protect both interest and principal against inflation.

Yield = fixed real return + inflation rate, thus safeguarding investors.

Classified as government securities (G-Secs), eligible for repo transactions and as part of banks’ SLR requirements.

Example: 'Inflation-Indexed National Savings Securities-Cumulative (IINSS-C)' issued by RBI, maturity 10 years, linked to CPI with 1.5% above inflation, compounded semi-annually.

Masala Bonds

Rupee-denominated bonds issued outside India to raise funds from foreign investors.

Introduced in 2014 by IFC (World Bank group) for Indian infrastructure projects.

Currency risk lies with investors – if rupee depreciates, investors lose value.

IFC used the term 'Masala' to reflect India’s culture and cuisine.

Example: Kerala Infrastructure Investment Fund Board (KIIFB) issued ₹2,150 crore Masala Bond in 2019; NHAI issued Masala Bonds on London Stock Exchange in 2017.

Eligible issuers: Indian corporates and banks (as per RBI).

Restrictions: Proceeds cannot be used for real estate (except affordable housing), prohibited FDI activities, equity investments in India, purchase of land, or on-lending for these purposes.

Maturity rules: Minimum 3 years if issue ≤ USD 50 million equivalent; 5 years if issue > USD 50 million equivalent.

Surety Bonds

Legally binding three-party agreement among principal (contractor), obligee (project owner/govt), and surety (insurance company).

Common in construction projects: guarantees project completion and quality.

If contractor defaults, surety compensates obligee for losses up to bond value.

Types: Performance Bonds are most common in India.

Example: Contractor building office must provide performance bond (say 10% of project cost). If project fails, client claims compensation from surety company.

Earlier only Bank Guarantees were allowed; from Budget 2022-23, Surety Bonds allowed for government procurement and gold imports.

Regulated by IRDAI under Surety Insurance Contracts Guidelines, 2022.

Benefits of Surety Bonds

Protect beneficiaries against defaults.

Guarantee completion of contracts and compliance with obligations.

Alternative to costly bank guarantees.

Challenges with Surety Bonds in India

New concept – limited expertise in risk assessment, pricing, reinsurance.

Limited market and few providers – harder for contractors to access.

High costs due to limited market and construction risks.

Lengthy process of issuing bonds delays projects.

Lack of awareness among contractors about benefits and requirements.

Electoral Bonds – Overview

Launched in 2018 by Government of India to reform political funding.

Issued by State Bank of India (SBI) – only authorized bank.

Anyone (Indian citizen, company, firm, association, cooperative) can buy and donate.

Available in denominations: ₹1,000, ₹10,000, ₹1 lakh, ₹10 lakh, ₹1 crore.

Validity: 15 days; must be deposited in political party’s SBI account within this period.

No interest payable to donors.

Donation can be made only to parties registered under Representation of People Act, 1951 and that secured at least 1% of votes in last Lok Sabha/State elections.

Objectives of Electoral Bonds

Replace cash donations with banking channel to reduce black money.

Increase transparency and accountability in political funding.

Encourage corporate and large donations through a formal route.

Advantages

Secure and clean channel of political funding.

Donors can donate without handling physical cash.

Prevents use of unaccounted money in elections.

SBI acts as intermediary ensuring banking records.

Criticism

Donor identity kept anonymous from public and Election Commission (only SBI and Govt can trace).

Favors ruling party as Govt can track donors.

Lack of transparency in real sense as voters cannot know funding sources.

Critics argue it violates 'Right to Know' of citizens (a part of Article 19 freedom of expression).

Examples

Political parties like BJP, INC, TMC, etc. have received large donations through electoral bonds.

As per SBI data (till 2023), thousands of crores donated via bonds, majority going to ruling party.

Bond Yield – Concept

Bond yield is effective return on a bond investment (does not include principal).

Formula: Yield (%) = (Annual Interest / Current Market Price) × 100.

Price-Yield Inverse Relation: Bond Price ↑ → Yield ↓; Bond Price ↓ → Yield ↑.

Types of Yield: Current Yield, Yield to Maturity (YTM), Nominal Yield.

Example

Bond face value ₹30, coupon 10% = ₹3 yearly interest.

If sold at ₹20, buyer still gets ₹3. Yield = 15%.

Shows how falling price raises effective returns.

Impact of Bond Yield

1. Economy

Low yields often mean slowdown – investors prefer safe govt. securities.

High yields may indicate inflationary pressure or higher risk premium.

2. Stock Market

High yields = investors shift to bonds → stock market weakens.

Low yields = money shifts to equities → stock market gains.

3. Exchange Rate

Higher yields attract Foreign Portfolio Investors (FPIs).

Rising Indian yields = more demand for INR → rupee appreciates.

4. Borrowing Cost

Govt & corporates face higher borrowing cost when yields rise.

Impacts fiscal deficit management, infrastructure projects, and private investment.

Global Context

US 10-year Treasury Bond Yield is considered global benchmark for interest rates.

India's G-Sec yield (10-year) is closely tracked for monetary policy signals.

Rising yields globally (like in US) can trigger capital outflows from India.

Major Factors Impacting Bond Yield

Interest Rate: When interest rates fall, bond prices rise and yields decline. When interest rates rise, bond prices fall and yields increase.

Inflation: During periods of rising inflation, investors demand higher returns, leading to an increase in bond yields and a fall in bond prices.

Government Borrowing: Higher government borrowing results in increased issuance of bonds. An increase in bond supply reduces prices and raises yields.

Demand-Supply: During uncertain or recessionary periods, higher demand for government securities increases prices and lowers yields.

Debentures – Overview

Debt instruments issued by companies to raise medium/long-term funds.

Debenture holders are creditors of company (not owners).

Backed only by creditworthiness and reputation of issuer – not by physical collateral.

Offer fixed interest to investors; repayable at maturity.

Example: XYZ Ltd. issues ₹10 crore debentures at 8% interest for 5 years. Investors lend funds; company pays annual 8% interest; at maturity, principal ₹10 crore is repaid.

Real Example: Reliance Industries Ltd. issued non-convertible debentures worth ₹10,000 crore in 2020 with 6.95% interest (AAA rated).

Types of Debentures

1. Convertible Debentures: Can be converted into equity shares after certain time. Attractive for investors expecting share price rise.

Example: 5-year debenture convertible into equity after 3 years.

2. Non-Convertible Debentures (NCDs): Cannot be converted into shares; only offer fixed interest. Example: 10-year NCDs with 8% coupon.

3. Redeemable Debentures: Redeemed on maturity date. Example: 5-year redeemable debentures repaid at end of term.

4. Irredeemable Debentures (Perpetual): No maturity date; only interest is paid; principal not repaid unless company winds up.

Difference Between Shares and Debentures

Shares = Ownership + Voting rights; Debentures = Loan + No ownership.

Shares = Higher risk, variable returns (dividends); Debentures = Lower risk, fixed returns (interest).

Shares = No maturity, can be held indefinitely; Debentures = Fixed maturity period.

Overview

Depositary Receipts (DRs) bridge the gap between foreign companies and local investors.

Issued by a bank or financial institution in one country to represent shares of a foreign company.

Traded in the local stock exchange of investor’s country (e.g., NSE, BSE in India).

Help companies raise funds internationally without complicated registration in every country.

In India, DRs are regulated under the Depository Receipts Scheme, 2014 by the Ministry of Finance.

Any Indian company (private, public, listed, unlisted) can issue DRs abroad.

How it Works

1. A foreign company deposits its shares with a bank (custodian bank).

2. Based on these shares, the bank issues Depositary Receipts in another country.

3. These DRs are traded in the local stock exchange of that country.

4. Investors who buy DRs indirectly own shares of the foreign company.

5. Investors receive dividends and other corporate benefits through DRs.

Types of DRs

American Depositary Receipts (ADRs)

Issued in the US, traded on American stock exchanges like NYSE, NASDAQ.

Denominated in US dollars.

Example: Alibaba (China) issues ADRs to trade in US markets.

Global Depositary Receipts (GDRs)

Issued outside the US, traded in multiple global markets (e.g., London, Luxembourg).

Denominated in foreign currencies like Euro, GBP.

Example: Vodafone Group Plc trades on London Stock Exchange as GDR.

Indian Depositary Receipts (IDRs)

Issued in India by Indian depositories like NSDL and CDSL.

Represent ownership in shares of a foreign company.

Traded in Indian rupees on Indian stock exchanges (BSE, NSE).

Example: In 2010, Standard Chartered Plc issued IDRs worth 530 million in BSE.

Importance

Easy access for investors to buy shares of global companies without currency risk.

Helps foreign companies raise capital in new markets.

Diversifies investment opportunities for domestic investors.

Overview

P-Notes are derivative instruments linked to Indian securities (shares, bonds, etc.).

Issued by FIIs (Foreign Institutional Investors) or their sub-accounts to overseas investors.

Investors do not need to register with SEBI to buy P-Notes.

Help foreign investors bypass lengthy registration and compliance procedures.

How P-Notes Work

1. A foreign investor (not eligible to directly invest) approaches a SEBI-registered FII.

2. The investor buys P-Notes from the FII.

3. FII invests in Indian stocks/securities on behalf of the investor.

4. Investor earns returns based on the performance of underlying Indian securities.

5. Investor remains anonymous in Indian market records; only the FII is visible to SEBI.

Example

Suppose a foreign investor in the USA wants to invest in Indian stocks but does not want to go through SEBI registration.

The investor buys P-Notes from a registered FII like Morgan Stanley or Goldman Sachs.

The FII invests in Infosys shares in India on behalf of the investor.

The investor receives returns as per Infosys share performance, without directly owning shares in India.

Features

Issued only to eligible foreign investors through FIIs.

Do not require direct SEBI registration.

Provide exposure to Indian securities indirectly.

Known for flexibility, anonymity, and fast execution.

Also criticized for lack of transparency and possible misuse for money laundering.

Regulatory Aspect

Regulated by SEBI in India.

Since 2007, SEBI has tightened norms on P-Notes due to misuse concerns.

Investors must comply with anti-money laundering (AML) and KYC norms.

Overview

Investment Funds pool money from several investors to invest in different financial assets.

Allow investors to diversify risk instead of investing in a single stock or bond.

Managed by professionals who make investment decisions on behalf of investors.

Examples: Mutual Funds, Exchange Traded Funds (ETFs), Bharat Bond ETF.

Mutual Funds

Mutual Fund collects money from investors to create a pool and invests in stocks, bonds, or money market instruments.

Managed by an Asset Management Company (AMC) under the supervision of Trustees.

High liquidity: investors can buy or sell mutual fund units easily.

Returns depend on performance of the stock market and fund manager’s strategy.

Example: A, B, C invest Rs 1000, Rs 2000, Rs 3000 in a mutual fund. If Rs 600 profit is earned, it will be shared in ratio 1:2:3.

Example in India: HDFC Top 100 Fund invests in top 100 companies listed on NSE to achieve long-term capital appreciation.

Exchange Traded Funds (ETFs)

ETFs are like mutual funds but they are listed and traded on stock exchanges, just like shares.

Hold a basket of securities such as stocks, bonds, or commodities.

Example: Government disinvestment – instead of selling shares of each company separately, Govt. transfers shares of 10 CPSEs (ONGC, GAIL, etc.) to a fund manager who creates ETF units (like Bharat 22 ETF).

Investors buy ETF units and receive returns based on dividends and performance of underlying companies.

ETFs are more liquid since they can be bought/sold instantly on exchanges.

Bharat Bond ETF

India’s first corporate bond ETF launched in 2019.

Offers 3-year and 10-year options, where bonds mature after fixed periods.

Minimum investment: ₹1000 (suitable even for small investors).

Managed by Edelweiss AMC, tracking Nifty Bharat Bond Index.

Invests in AAA-rated bonds (very safe with low default risk).

Benefits: predictable income stream from fixed interest, safe investment, promotes broader participation from retail and HNI investors, reduces borrowing cost for government organizations.

Hedge Funds – Overview

Hedge Funds are alternative investment funds regulated by SEBI in India.

Mainly targeted at High Net Worth Individuals (HNIs), family offices, and institutions with large amounts of capital.

Use complex strategies like arbitrage, short selling, derivatives trading, commodities trading, and currency speculation.

Aim: To generate very high returns but with high risk exposure.

Require very high minimum investment (not for common small investors).

Features of Hedge Funds

Pool of money from selected investors.

Invest in both listed and unlisted securities, bonds, derivatives, and currencies.

Deal in risky, high-return assets.

Often have lock-in periods (investors cannot withdraw money easily).

Not directly accessible to retail investors; mainly for HNIs and institutions.

Example Hedge Funds in India: Munoth Hedge Fund, Forefront Alternative Investment Trust, Quant First Alternative Investment Trust, IIFL Opportunities Fund.

Real Estate Investment Trust (REIT) – Overview

Similar to a mutual fund but focused only on real estate properties.

Pools money from multiple investors to buy, own, and manage income-generating real estate assets.

Examples of properties: office buildings, shopping malls, apartments, warehouses, hospitals, hotels.

Provides income to investors through rental earnings and property appreciation.

Features of REITs

Regulated by SEBI, introduced in India in 2007; revised in 2014.

Investors buy units of REITs which are listed on stock exchanges (like NSE, BSE).

Units can be bought and sold like company shares – providing liquidity.

REIT sponsor (developer/private equity firm) must hold at least 25% of units.

REIT acquires properties, leases them, collects rent, and distributes income as dividends to unit holders.

Hedge against inflation – as rental income usually rises faster than inflation.

Example: Mindspace Business Parks REIT (2020) owns properties in Mumbai, Hyderabad, Pune, and Chennai, leased to multinational firms and Indian corporates.

Provides quarterly dividend payouts to investors.

Alternative Investment Funds (AIFs)

Regulation: privately pooled funds regulated by SEBI (AIF) Regulations, 2012.

Category I: funds with positive spillovers – venture capital, SME, social venture and infrastructure funds.

Category II: private equity and debt funds; no leverage except for day-to-day operations.

Category III: funds using complex trading strategies and leverage – e.g. hedge funds.

InvIT – Infrastructure Investment Trust

Similar to REITs and mutual funds but focus on infrastructure projects like highways, power plants, telecom towers, pipelines etc.

Money is pooled from investors and used to finance or operate infrastructure projects.

Investors earn returns in the form of profits or revenue generated from these projects (e.g., toll collections, electricity tariffs).

Listed on stock exchanges, so units can be traded like shares, providing liquidity.

Benefits: promotes infrastructure financing, gives regular income to investors, and allows small investors to participate in large infra projects.

Venture Capital (VC)

Type of private equity funding provided to early-stage, innovative, and high-risk startups.

VCs invest money in exchange for equity (ownership stake) in the company.

Suitable for startups with new ideas, scalable business models, and high growth potential.

VC firms not only provide money but also guidance, strategic advice, and operational support.

Investment rounds: after seed funding, the first big institutional round is called Series A. Later rounds are Series B, Series C, etc.

Example: Sequoia Capital India has invested in OYO, BYJU'S, Zomato, and Paytm, supporting them with capital and mentorship.

Seed Money

Also called seed funding or seed capital – the very first investment in a startup or idea.

Provided by angel investors, friends, family, or specialized seed funds.

Used for product development, market research, or proof of concept.

Investor takes equity in the startup in exchange for early funding.

Called 'seed' because it helps the business grow in the very beginning, until bigger rounds of funding come in.

Qualified Institutional Investors (QII)

These are big professional investors who have both – financial strength and expert knowledge to invest in huge amounts.

They include organizations like Mutual Funds, Insurance Companies, Pension Funds, and Foreign Venture Capital Funds.

Because they invest such large amounts, SEBI (Securities and Exchange Board of India) gives them a special registration process and keeps them under strict rules so that they do not misuse their power to disturb the market.

Example: LIC of India (insurance company) or SBI Mutual Fund making large investments in stock market.

Foreign Institutional Investors (FII)

These are big institutions located outside India, but they invest in Indian companies and markets.

They include Pension Funds, Hedge Funds, Sovereign Wealth Funds, Mutual Funds, etc. from foreign countries.

Before investing in India, they must register with SEBI. They are allowed to buy shares, bonds, debentures, and mutual funds but only up to a certain limit so that foreigners do not control Indian companies completely.

Example: A Singapore-based Mutual Fund investing in Infosys shares in India.

Angel Investors

These are rich individuals (High Net Worth Individuals – HNIs) who use their personal money to invest in small startups and new businesses.

They are often retired business leaders or executives who want to encourage new entrepreneurs.

Angel investors not only give money but also help with advice, mentorship, and business contacts.

Example: Early investors in Ola, Flipkart, or Paytm were angel investors who gave money when banks and big funds were not ready to take risk.

Jobbers (Market Makers/Dealers)

Jobbers are middlemen in stock exchanges who buy and sell shares all the time to make sure there are always buyers and sellers in the market.

They create liquidity, meaning they make it easy for others to buy and sell shares.

They earn money from the difference in buying price (bid) and selling price (ask).

Example: A jobber at NSE ensures that if you want to sell Reliance shares, there is always someone to buy them.

Stag Investors

Stags are investors who focus only on Initial Public Offerings (IPOs).

They buy shares of a new company when it first comes to the stock market, and then quickly sell them in the secondary market as soon as prices go up.

Their goal is not long-term ownership but short-term quick profit.

Example: If Zomato issues shares in IPO at Rs 100 and the price goes up to Rs 150 after listing, a stag investor will sell immediately to book Rs 50 profit.

Bull Investors

Bulls are optimistic investors who believe that share prices will increase in future.

Just like a bull pushes things upward with its horns, bull investors buy shares now to push prices upward and make profit later.

Example: If HDFC Bank share is Rs 1500 today and a bull investor expects it will rise to Rs 2000, he will buy more shares today.

Bear Investors

Bears are pessimistic investors who believe that share prices will fall in future.

Just like a bear pushes things downward with its paws, bear investors sell shares today expecting to buy them back later at a lower price and make profit.

Example: If Café Coffee Day share is Rs 60 today and a bear investor expects it will fall to Rs 50, he will sell shares now and buy them later at Rs 50.

What is a Stock Exchange?

A stock exchange is a regulated platform where financial instruments such as shares, bonds, and derivatives are traded electronically.

Buyers and sellers meet here virtually, and prices are determined by demand (buyers) and supply (sellers).

Only listed securities (approved by the exchange) can be traded.

Major Stock Exchanges in India

Bombay Stock Exchange (BSE)

Established in 1875, it is the oldest stock exchange in Asia.

Its benchmark index is SENSEX, which tracks 30 large and financially sound companies.

BSE also established India INX, India’s first international stock exchange at GIFT City, Ahmedabad.

National Stock Exchange (NSE)

Established in 1992 as India’s first fully automated electronic trading exchange.

Its benchmark index is NIFTY 50, which tracks the performance of 50 large and stable companies.

What is a Stock Market Index?

A stock market index is a statistical measure that shows changes in the market value of a selected group of stocks.

It is calculated using the Market Capitalization formula: Market Cap = Share Price × Number of Outstanding Shares.

Example: If a company issues 10 crore shares at Rs. 10 per share, its market capitalization = Rs. 100 crore.

As share prices move daily in the secondary market, the index also fluctuates and reflects growth or decline in the market.

Role of Market Sentiment

Indices may not always represent actual economic growth; sometimes they rise or fall due to rumors, political events, or market speculation.

Example: If people buy shares of a company based on rumor, demand goes up, prices rise artificially, which increases market capitalization, and as a result, Sensex/Nifty rises.

What is Social Stock Exchange?

Introduced in 2022 with SEBI approval; BSE got in-principle approval to set up SSE as a separate segment.

Purpose: To serve private and non-profit sectors by providing them a platform to raise funds for social and development activities.

How does it work?

Listing: Both for-profit and not-for-profit social enterprises can be listed on SSE; regulated by SEBI.

Fundraising:

Not-for-profit entities: Can issue Zero-Coupon Zero-Principal (ZCZP) bonds, social impact funds, or mutual funds.

For-profit entities: Can raise funds through equity, debt, development impact bonds, or social venture funds.

Eligibility

Social enterprises engaged in defined social activities like health, education, environment, gender equality, rural development, affordable housing, etc. are eligible.

Non-Eligibility

Corporate foundations, political or religious groups, trade/professional associations, infrastructure companies (except affordable housing) are excluded.

Additional Requirements

For-profit enterprises must meet extra reporting and disclosure norms to ensure transparency.

Benefits of SSE

Easier Access to Funds: Social enterprises can attract donations, CSR funds, and philanthropic contributions.

Better Utilisation: Proper tracking of how funds are used improves accountability.

Visibility: Smaller NGOs or enterprises can raise funds more effectively compared to traditional methods.

Formation and Structure

Formed by an executive order in 1988; became statutory under SEBI Act, 1992.

Headquarters: Mumbai.

Composition: Chairman + 1 officer from RBI + 2 officers from Union Govt + 5 members nominated by Union Govt.

Tenure of Chairman: 5 years or until 65 years of age (reappointment allowed).

Functions of SEBI

Regulates issue of securities: IPOs, bonds, ETFs, REITs, INVITs etc. under Securities Contracts (Regulation) Act, 1956.

Regulates places: Stock exchanges, depositories, commodity exchanges.

Regulates persons: Investors, brokers, fund managers, companies issuing shares.

Ensures fair trading practices and protects investors against fraud.

Appellate Mechanism

Securities Appellate Tribunal (SAT) hears appeals against SEBI, PFRDA, and IRDAI orders.

Appeals against SAT decisions can be made directly to the Supreme Court.

Key Reforms Initiated by SEBI

1. Securities Market Code (Budget 2021)

Proposed single law 'Securities Market Code' by merging SEBI Act (1992), Depositories Act (1996), Securities Contracts (Regulation) Act (1956), and Government Securities Act (2007).

2. Investor Charter (Budget 2021)

Defines rights & responsibilities of investors.

Lists do’s & don’ts of investing.

Ensures grievance redressal mechanism by SEBI-registered intermediaries.

3. Circuit Breaker System

Triggered when share price fluctuation crosses a certain percentage limit compared to the previous day.

Trading stops for a fixed time to prevent panic selling and stock market crashes.

4. PAN Card for DEMAT Accounts

SEBI made PAN mandatory for opening DEMAT accounts.

Ensures a person can operate only one DEMAT account in their name, creating transparency.

5. Investor Protection Fund (IPF)

Mandatory for stock and commodity exchanges.

Compensates investors in case brokers default or fail to deliver shares.

Covers non-speculative losses (e.g., share delivery issues due to court disputes).

Promotes investor education and awareness.

Why Reforms in Bond Market?

Compared to stock markets, India’s bond market is underdeveloped.

Most bond trading happens between institutions, leaving retail investors out.

Bond reforms aim to make bonds accessible, transparent, and liquid for all investors.

Unified Bond Market

Earlier: Government bonds (G-Secs) and Corporate Bonds traded separately.

Budget 2019 proposed linking both platforms.

In 2020, SEBI proposed a 'Unified Bond Market' where G-Secs and corporate bonds can be bought and sold together.

Purpose: To increase retail participation and efficiency.

Bond-Buying Institution (Budget 2021)

Budget 2021 proposed setting up a body to purchase investment-grade bonds.

This institution would buy bonds during both stressed and normal times.

Helps boost investor confidence and ensure bond market stability.

Similar to how central banks abroad act as buyers of last resort during crises.

G-Sec Trading for Retail Investors – Retail Direct Scheme (2021)

RBI launched the 'Retail Direct Scheme' in 2021.

Retail investors can open a 'Retail Direct Gilt (RDG)' account on RBI’s e-Kuber portal.

Eligible investors: Both resident Indians and NRIs.

Instruments available: Treasury Bills, Government Securities (Union Govt), State Development Loans (SDLs), and Sovereign Gold Bonds.

Benefit: Removes intermediaries – retail investors can directly buy bonds from RBI.

Overview

Commodities market allows bulk trading of goods such as food grains, cotton, gold, silver, oil, and gas.

Buyers and sellers agree on prices to reduce risks of price fluctuations in the future.

Two major exchanges in India: Multi Commodity Exchange (MCX) and National Commodity and Derivatives Exchange (NCDEX).

FMC (Forward Market Commission) earlier regulated commodity exchanges. In 2015, it merged with SEBI, bringing commodities under the same regulator as capital markets.

Example: A farmer growing wheat can sell produce at an agreed price through commodities exchange, while a food processing company buys it to secure raw material.

Spot Market

Spot market = Physical market where commodities are bought and sold for immediate delivery.

Prices are decided by current supply and demand.

Example: A farmer takes wheat to a mandi and sells it directly to a buyer at today’s price, with immediate delivery.

Futures Market

Futures market = Derivatives market where buyers and sellers agree on price today for future delivery.

Helps both sides lock in prices and reduce risk of sudden price changes.

Example: A gold jewellery manufacturer enters into a futures contract to buy gold at a fixed price for delivery in 6 months. Even if gold prices rise later, the manufacturer will get gold at agreed lower price.

Regulator: the Forward Markets Commission (FMC) was merged with SEBI in September 2015; since then SEBI regulates the commodity derivatives market.

Gold Exchanges

A gold exchange is a special commodity market focused only on gold trading.

In Union Budget 2021, reforms were announced to bring gold exchanges under SEBI regulation.

The Warehousing Development and Regulatory Authority (WDRA), a statutory body under the Department of Food and Public Distribution, is responsible for warehousing, vaulting, assaying (purity check), and logistics of gold exchanges.

These reforms aim to increase transparency, ensure gold quality, and reduce black-market trading in gold.

Electronic Gold Receipts (EGRs)

Gold companies deposit physical gold in WDRA-authorized warehouses.

The warehouse manager issues Electronic Gold Receipts (EGRs) against the deposited gold.

EGRs are listed on SEBI-regulated electronic gold exchanges.

Buyers can purchase EGRs electronically, ensuring purity and transparency of gold ownership.

Buyers can either resell EGRs to other investors or redeem them for physical gold from the warehouse.

Example: An investor buys 10 grams of gold in digital form as EGR. Later, he can either sell it online like a stock or go to the warehouse and collect 10 grams of physical gold.

Water Trading

Water trading means buying and selling water access entitlements (water rights).

It works like other commodities (gold, silver, oil) – price is decided by demand and supply.

In 2022, NITI Aayog started drafting a policy for water trading in India on commodity exchanges.

Already practiced in countries like Australia, Chile, and the USA.

Example: A farmer with surplus water rights can sell them to another farmer or industry facing water shortage.

In 2020, the first tradable water price futures index was launched on the Chicago Stock Exchange, showing global recognition of water as an economic asset.

Dabba Trading (Bucketing / Box Trading)

It refers to unofficial trades carried out by unscrupulous brokers outside the recognized stock exchanges.

Investor’s trades are recorded only in the broker’s private ledger, not in the DEMAT account.

Risk: Investor has no legal protection; if broker defaults, money is lost.

Illegal in India under SEBI regulations; punishable by fine and imprisonment.

Advantage for wrongdoers: avoids taxes, fees, and allows very high leverage.

Algo-Trading (Algorithmic Trading)

Use of computer algorithms by brokers/institutions to automatically place large orders within milliseconds.

Allows faster trades than humans; often used for arbitrage or hedging.

Risks: Can be misused to manipulate prices or cause sudden market crashes.

SEBI regulations: one broker cannot place more than 100 orders per second.

Co-location facility: brokers install servers near stock exchange to reduce time lag (latency).

Insider Trading

Use of confidential company information (e.g., mergers, patents, results) by insiders to make unfair gains.

Example: A company official knows a new product will boost profits; buys shares before public announcement.

SEBI has declared it illegal; strict punishments include fines and imprisonment.

Employee Stock Option Plan (ESOP)

A scheme where employees are given shares or the option to buy shares at a discounted price.

Purpose: to increase employee loyalty, retention, and motivation by making them co-owners.

Example: A startup grants employees stock options at ₹50 per share, while the market price is ₹100. Employees benefit when price rises further.

Penny Stocks

Very low-priced shares, often below their face value, issued by small companies with little financial strength.

Attract small investors but are highly volatile and risky.

Susceptible to manipulation (‘pump and dump’ schemes).

Example: A penny stock may trade at ₹2–₹3, making it look affordable, but can suddenly fall to near zero.

India – Rakesh Agrawal vs SEBI (1994)

Case: Director of ABS Industries Ltd. shared unpublished price-sensitive information with Bayer A.G. (Germany).

Bayer used this information before acquiring shares of ABS Industries.

SEBI ruled that such use of unpublished information gave unfair advantage to Bayer, and penalized them.

Importance: This was the first major insider trading case in India, setting precedent for SEBI enforcement.

India – Hindustan Lever Limited (HLL) Case (1996)

Case: HLL purchased a large number of shares of Brooke Bond Lipton India Ltd. (BBLIL) just before merger announcement.

As HLL was a party to the merger decision, SEBI held that it had access to unpublished price-sensitive information.

Outcome: SEBI ordered reversal of trades; case established how corporate giants could misuse insider information.

USA – Martha Stewart & ImClone (2001)

Case: Martha Stewart, a US businesswoman, sold shares of ImClone Systems based on a tip from her broker that company’s cancer drug approval would be rejected.

Outcome: She avoided losses of around 45,000 but was convicted of insider trading-related charges (obstruction of justice, lying to investigators).

Importance: Highlighted how even small misuse of insider info is punishable in USA.

USA – Rajat Gupta & Raj Rajaratnam (2012)

Case: Rajat Gupta, former Goldman Sachs director, leaked confidential boardroom information to hedge fund manager Raj Rajaratnam of Galleon Group.

Rajaratnam made huge profits by trading based on these tips.

Outcome: Rajat Gupta was sentenced to 2 years in prison; Rajaratnam got 11 years (one of the longest sentences for insider trading in USA).

Importance: Showed strict enforcement of insider trading laws in USA and highlighted risks of corporate greed.

What is the Forex Market?

It is not a single physical building but a network of banks, brokers, institutions, and individuals trading currencies.

It is the largest and most liquid financial market in the world, operating 24 hours a day, 5 days a week.

Key Concept: Exchange Rate

This is the price of one currency in terms of another.

Appreciation (मजबूत होना): When a currency becomes more valuable. (e.g., 1 = ₹80 changes to 1 = ₹75. The Rupee has appreciated).

Depreciation (कमजोर होना): When a currency becomes less valuable. (e.g., 1 = ₹80 changes to 1 = ₹85. The Rupee has depreciated).

Why do People Trade Currencies?

1. International Trade: An Indian importer needs to buy Dollars to pay for US goods. An Indian exporter sells US goods, earns Dollars, and exchanges them for Rupees.

2. Investment: Foreign companies (FDI/FPI) need to buy Rupees to invest in India.

3. Speculation: Traders buy currencies hoping their value will rise, or sell them expecting a fall, to make a profit.

4. Hedging: Companies use the Forex market to protect themselves from the risk of currency fluctuations.

5. Central Bank Intervention: RBI buys or sells dollars to stabilize the Rupee (manage volatility).

Types of Exchange Rate Systems

Fixed Rate: Government/Central Bank sets a fixed price for its currency against another (e.g., Gulf countries peg their currency to the USD).

Floating Rate: The exchange rate is determined purely by market demand and supply (e.g., USD, Euro).

Managed Float (India's System): The rate is mostly market-determined, but the central bank (RBI) intervenes (buys/sells forex) to prevent extreme volatility.

What is a Company?

A company, registered under the Companies Act (2013 in India), is an artificial legal person. It is separate from its owners (shareholders).

This separation means the company itself can own assets, enter contracts, and be sued, while the owners (shareholders) have limited liability (they are only liable for the amount they invested).

1. Classification by Liability

Private Limited Company (Pvt. Ltd.)

Definition: A closely-held company, often run by a family or a small group of founders.

Members: Minimum 2, Maximum 200.

Raising Funds: Cannot issue shares to the general public (no IPO). Can only raise funds from private investors, friends, or family.

Share Transfer: Restricted. Shares cannot be sold or transferred easily without agreement from other shareholders.

Compliance: Fewer regulatory rules compared to public companies.

Name: Must end with 'Private Limited' (Pvt. Ltd.).

Public Limited Company

Definition: A company that offers its shares to the general public.

Members: Minimum 7, No maximum limit.

Raising Funds: Can raise capital from the public by issuing shares through an Initial Public Offering (IPO).

Share Transfer: Freely transferable. Shares are listed on a stock exchange (like BSE, NSE) where anyone can buy or sell them.

Compliance: Must follow strict SEBI and Companies Act regulations (e.g., publish quarterly results, protect minority shareholders).

Name: Must end with 'Limited' (Ltd.). (e.g., Reliance Industries Ltd.)

2. Classification by Control

Holding Company

Definition: A company that controls another company, either by owning more than 50% of its shares or by controlling the composition of its Board of Directors.

Example: Tata Sons is the holding company for many Tata group companies like TCS, Tata Motors, etc.

Subsidiary Company

Definition: A company that is controlled by a holding company.

Example: Tata Motors is a subsidiary of Tata Sons.

Other Types

One Person Company (OPC): A type of private company that can be formed with only one member. Encourages individual entrepreneurs.

Government Company: A company in which at least 51% of the paid-up share capital is held by the Central Government, State Government(s), or both (e.g., BHEL, GAIL).

What are Corporate Actions?

These are decisions made by a company's board of directors that affect its finances and, consequently, its shareholders.

They are important signals about the company's health and future plans.

1. Dividend (लाभांश)

What it is: A portion of the company's profits distributed to its shareholders.

Why: To reward investors for their ownership.

Impact: Shareholders receive cash (or sometimes additional shares). On the 'Ex-Dividend Date', the share price typically drops by the dividend amount.

Example: TCS declares a dividend of ₹10 per share. If you own 100 shares, you receive ₹1,000.

2. Bonus Issue (बोनस इश्यू)

What it is: The company gives free additional shares to its existing shareholders, based on their current holdings.

Why: To reward shareholders when the company has large reserves. It increases liquidity (more shares available) without costing shareholders anything.

Impact: The number of shares held increases, but the face value of the shares remains the same. The market price per share drops proportionally.

Example: A 1:1 bonus issue means you get 1 free share for every 1 share you hold. If you had 100 shares at ₹200, you now have 200 shares, and the price will adjust to ~₹100.

3. Stock Split (शेयर विभाजन)

What it is: The company divides its existing shares into multiple new shares.

Why: To reduce a high share price, making it more affordable for retail investors and increasing liquidity.

Impact: The number of shares increases, and the face value of each share is reduced proportionally. The market price also drops.

Example: A 1:5 stock split (on a ₹10 face value share) means 1 share becomes 5 shares. The face value becomes ₹2 per share. If the market price was ₹1000, it will adjust to ~₹200.

4. Share Buyback (शेयरों की पुनर्खरीद)

What it is: The company uses its cash reserves to buy back its own shares from the open market or from existing shareholders.

Why: To return surplus cash to shareholders, increase the promoter's holding, signal confidence, or support a falling share price.

Impact: The number of outstanding shares decreases, which can increase the Earnings Per Share (EPS) and the market price of the remaining shares.

Example: TCS announces a buyback of shares at ₹4,500 when the market price is ₹4,000. Shareholders can sell their shares to the company at the higher price.

1. Initial Public Offering (IPO)

What it is: The first time a private company sells new shares to the public to raise money.

Process: The company hires investment banks (underwriters) who manage the process, set the price (or price band), and sell the new shares to investors.

Primary Goal: To raise fresh capital for growth, expansion, or paying off debt.

Pros: Raises significant new money, creates market visibility, underwriters provide price stability.

Cons: Very expensive (high underwriter fees), time-consuming, 'lock-up' periods prevent existing investors from selling immediately.

Example: Zomato's IPO in 2021 raised new capital by selling new shares to the public.

2. Direct Listing (or Direct Public Offering - DPO)

What it is: A company 'goes public' by simply listing its existing shares (held by founders, employees, early investors) on a stock exchange.

Process: No new shares are created. No investment banks are hired as underwriters. The company just pays a listing fee to the exchange.

Primary Goal: To provide liquidity (an exit route) for existing shareholders (employees, VCs) to sell their shares to the public. The company itself does not raise new capital . (Note: Some recent rule changes globally are starting to allow capital raising even in direct listings, but the primary distinction holds).

Pros: Much cheaper (no underwriter fees), faster, more democratic price discovery (based purely on market demand/supply on Day 1), no lock-up periods.

Cons: No new capital raised for the company, higher price volatility on listing day (no underwriter to stabilize it), less marketing hype.

Example: Globally, companies like Spotify and Slack went public via Direct Listing.

Who is it For?

IPO: Best for companies that need to raise a large amount of new money for future growth.

Direct Listing: Best for well-known companies that don't need immediate cash but want to provide liquidity to their existing investors and employees.

What is Insurance?

It is a form of risk management. You pay a regular amount called a premium to an insurance company.

In return, the company promises to pay you (or your nominee) a large sum of money (Sum Assured) if a specific event (like death, accident, fire, theft) occurs.

It transfers the risk of a large, uncertain loss from you to the insurance company.

1. Life Insurance

What it is: Provides a lump-sum payment to the nominee in case of the insured person's death during the policy term.

Purpose: Provides financial security to the family after the breadwinner's death.

Key Players: Life Insurance Corporation of India (LIC - public sector), HDFC Life, ICICI Prudential, SBI Life (private sector).

Types:

Term Insurance: Pure risk cover. Pays only on death. No payment if insured survives the term.

Endowment/ULIPs: Combination of insurance and investment. Pays on death or at the end of the term.

2. Non-Life (General) Insurance

What it is: Covers losses related to assets and health.

Types:

Health Insurance: Covers cost of hospitalization, medicines, and treatment.

Motor Insurance: Covers damage to vehicles (cars, bikes) and 'Third-Party Liability' (damage caused by your vehicle to others).

Home Insurance: Protects against damage to property from fire, flood, earthquake, theft.

Other: Travel insurance, crop insurance (e.g., PM Fasal Bima Yojana), fire insurance.

Key Players: New India Assurance, Oriental Insurance (public sector), ICICI Lombard, HDFC Ergo (private sector).

Regulator: IRDAI

Insurance Regulatory and Development Authority of India (IRDAI).

A statutory, autonomous body set up in 1999 (based on Malhotra Committee recommendations).

Functions: Protects policyholders' interests, regulates insurance companies, ensures orderly growth of the sector, and specifies rules for operations and investments.

Role in the Economy

Risk Management: Provides a safety net for individuals and businesses.

Mobilizes Savings: Collects small, regular premiums from millions, creating a large pool of capital.

Infrastructure Finance: Insurance companies have long-term liabilities (e.g., life insurance claims due in 20-30 years). They invest their large capital pool in long-term assets like government bonds and infrastructure projects, providing stable finance for national development.

Challenges

Low Penetration: A large portion of India's population still lacks adequate insurance coverage.

Lack of Trust: Issues with claim settlement and complex policy terms.

Distribution: Reaching rural and remote areas is difficult.

Understanding Settlement

When you buy a share, the trade happens instantly (execution), but the actual transfer of money and shares takes time. This transfer process is called 'settlement'.

T: Stands for the 'Trade' date (the day you buy or sell).

+1, +2: Stands for the number of business days after the trade date.

The Evolution in India

Before 2002 (Badla System): Settlements were weekly or fortnightly. Very risky.

2002-2021 (T+3 / T+2): India moved to T+3 (Trade + 3 days) and then to T+2 (Trade + 2 days) in 2003. This was the global standard for many years.

2023 (T+1): SEBI introduced the T+1 cycle in phases, with all stocks moving to this system by January 27, 2023.

How T+1 Works (Example)

Trade (T) - Monday: You sell 100 shares of Reliance.

Settlement (T+1) - Tuesday: The shares are debited from your demat account, and the money is credited to your broker's account (which is then transferred to you).

(In the old T+2 system, you would have received the money on Wednesday).

Benefits of T+1 Settlement

1. Faster Funds & Shares: Sellers get their money one day earlier. Buyers get their shares one day earlier. This increases liquidity in the market.

2. Reduced Risk:

Counterparty Risk: Reduces the risk that the other party (or their broker) defaults on the trade before settlement.

Collateral Risk: Less money is locked up as collateral (margin) with clearing corporations, as the risk period is shorter.

3. Increased Efficiency: Makes the entire market infrastructure more efficient and faster.

4. Aligns with Global Trends: Puts India ahead of many global markets (like the US, which moved to T+1 in 2024).

Challenges

Operational Pressure: Brokers and clearing houses must complete all processes (trade confirmation, margin calculation, fund/share transfer) in a much shorter time.

Challenges for Foreign Investors: FPIs operating from different time zones face difficulties in managing currency conversion and fund transfers within the T+1 deadline.