Comprehensive Guide to Financial Markets, Instruments, and Institutions

Financial Markets

encompass any place or system that enables buyers and sellers to trade financial instruments such as bonds, equities, various international currencies, and derivatives.

Capital Raising

The process by which financial markets facilitate the raising of capital for businesses and governments.

Resource Allocation

The efficient distribution of financial resources to various sectors of the economy through financial markets.

Price Discovery

The mechanism through which financial markets determine the price of financial instruments based on supply and demand.

Bonds

Financial instruments that investors buy to earn interest, essentially lending money to the issuer, which could be a company or government entity.

Stocks

A security that represents ownership of a fraction of the corporation that issued it, with units called shares entitling the owner to a portion of the corporation's profits.

Currencies

Financial instruments always traded in pairs, where the value of one currency is relative to the value of another.

Derivatives

A type of financial contract whose value is dependent on an underlying asset, a group of assets, or a benchmark.

Futures

Contracts to buy or sell an asset at a predetermined price at a specified time in the future.

Options

Contracts that give the holder the right, but not the obligation, to buy (call option) or sell (put option) an asset at a specified price within a certain period.

Swaps

Contracts in which two parties exchange cash flows or other financial instruments.

Forwards

Customized contracts between two parties to buy or sell an asset at a specified price on a future date.

Primary Markets

Markets in which corporations raise funds through new issues of securities.

Secondary Markets

Markets that trade financial instruments once they are issued.

Money Markets

Markets that trade debt securities or instruments with maturities of less than one year.

Capital Markets

Markets that trade debt and equity instruments with maturities of more than one year.

Foreign Exchange Markets

Markets in which cash flows from the sale of products or assets denominated in a foreign currency are transacted.

Liquidity

The ease with which an asset can be converted into cash without affecting its market price.

Risk Management

The process of identifying, assessing, and controlling threats to an organization's capital and earnings, often facilitated by financial markets.

Securities and Exchange Commission (SEC)

The main regulator of securities markets since the passage of the Securities Act of 1934.

Over-the-Counter (OTC)

A marketplace where financial instruments are traded directly between two parties without a central exchange or broker.

Economic Growth

An increase in the production of goods and services in an economy over a period of time, often promoted by financial markets.

Commercial Activities

Business activities that involve the buying and selling of goods and services, supported by financial markets.

Interest Rate

The amount charged by lenders to borrowers for the use of money, expressed as a percentage of the principal.

Maturity Date

The date on which a financial instrument, such as a bond, is due to be paid back in full.

Derivative Markets

Markets in which derivative securities trade.

Initial Public Offering (IPO)

The first time a company offers its stock to the public.

Rights Offering

Current shareholders are offered additional shares at a discounted price.

Private Placement

Securities are sold to a specific group of investors, such as institutions.

Preferential Allotment

Shares are offered to select investors at a special price.

Futures Contracts

A standardized agreement to buy or sell an underlying asset at a specific price on a future date.

Options Contracts

Gives the holder the right, but not the obligation, to buy or sell the underlying asset at a predetermined price before a specified date.

Purpose of Primary Market

Issue new securities to raise capital.

Purpose of Secondary Market

Trade existing securities.

Duration of Money Market

Up to 1 year.

Duration of Capital Market

More than 1 year (long-term).

Risk in Money Market

Low risk.

Risk in Capital Market

Higher risk.

Return in Money Market

Modest returns.

Return in Capital Market

Higher potential returns.

Liquidity in Money Market

High liquidity.

Liquidity in Capital Market

Lower liquidity compared to money markets.

Call Option

An investor buys a call option for Company XYZ's stock, giving them the right to purchase the stock at a specific price within the next three months.

Interest Rate Swap

In an interest rate swap, one party might exchange fixed interest payments for floating interest payments with another party, helping them manage interest rate risk.

Financial Institutions (FIs)

Entities such as commercial banks, credit unions, insurance companies, and mutual funds that channel funds from those with excess savings to those in need of capital.

Direct Transfer

A corporation sells its stock or debt directly to investors without going through a financial institution.

Monitoring Costs

Suppliers of funds must oversee the use of their funds, which is expensive and time-consuming.

Liquidity Risks

Suppliers might prefer holding cash over long-term securities for liquidity needs.

Price Risks

Selling securities involves price risk and transaction fees, making direct investments less attractive.

Asset Transformers

FIs that take the funds from suppliers and use them to create new financial products or assets, holding these assets on their balance sheets.

Users of Funds

Entities or individuals who require funds for various purposes, such as businesses needing capital for expansion or individuals taking loans.

Cash and Financial Claims

Cash flows from suppliers to users through financial intermediaries in exchange for financial claims.

Diversification Strategy

FIs spread their investments across various assets, reducing risk and ensuring stability.

Suppliers of Funds

Entities or individuals who provide the capital or funds to the financial system, such as individual savers or institutional investors.

Brokers

Intermediaries that match suppliers of funds with users of funds, facilitating the transfer of financial claims.

Depository institutions

Institutions that accept deposits from the public, including commercial banks, savings associations, savings banks, and credit unions.

Non-depository institutions

Financial entities that do not accept deposits but provide financial services, such as insurance companies, securities firms, investment banks, mutual funds, and pension funds.

Thrift Banks

A type of bank that primarily focuses on accepting savings deposits and making mortgage and other loans.

Trust Corporations

Companies that manage trusts, estates, and investment funds on behalf of clients.

Universal and Commercial Banks

Banks that provide a wide range of financial services, including accepting deposits, making loans, and offering investment services.

Other Non-Bank Financial Intermediaries

Entities that provide financial services but are not classified as banks, including investment firms and capital corporations.

Bangko Sentral ng Pilipinas (BSP)

The primary regulator of banks and non-bank financial institutions in the Philippines, responsible for monetary policy and financial stability.

Insurance Commission (IC)

Oversees insurance companies and ensures their financial stability and consumer protection.

Philippine Deposit Insurance Corporation (PDIC)

Provides deposit insurance to protect depositors in case of bank failures, guaranteeing deposits up to PHP 500,000 per depositor per bank.

Role of Financial Markets

Financial markets connect investors with capital to borrowers needing capital, raising capital, allocating resources efficiently, and determining asset prices.

Economic Benefits of Financial Markets

Financial markets boost economic growth, offer liquidity, and help manage risk.