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FINANCIAL MARKETS

There are lots of individuals and firms with surplus funds. To many of them,
the surplus funds needs to be invested
At the same time, there are people and firms whose needs for funds are greater
than their current incomes. They need a reliable source of LOANABLE FUNDS.
Individuals and firms who want to borrow money are bought together with
those who want to lend in the financial markets.
Financial instruments are channeled through and from the Surplus Spending
Units (SSUs) and the Deficit Spending Units (DSUs)
BENEFITS OF FINANCIAL MARKETS
1. Funds are directed to DSUs (Deficit Spending Units) which can use them
most efficiently
1. Liquidity is provided to savers
Financial Markets, just like any market, operate under the influence of the
demand and supply of funds.
DSUs that can use borrowed funds in the most productive manner can afford
to pay for higher interest rates.
The competition will push interest rates higher and this will motivate savers
to save more so they have more funds for lending.
Addressing LIQUIDITYwithout financial markets, savers will lend directly to
borrowers lenders have a problem when they have to wait for maturity
date. But with financial markets, FINANCIAL INSTRUMENTS are issued to
lenders, which in turn, can be converted to cash even BEFORE maturity, by
ENDORSEMENT OR SALE.
WHY FIRMS INVEST AND BORROW
Firms have CAPITAL DEFICIENCY
Electronics-retailing firm may expand to open new branches
Additional investments bring additional income or economies in operation
Advantages of borrowing:
Quantity discounts for bulk purchases granted by suppliers
Additional revenues from sales
METHODS BY WHICH FINANCIAL MARKETS TRANSFER FUNDS
1. Direct Finance lending by ultimate borrowers with no intermediary
SSU gives money to the DSU in exchange for financial claims on the DSU
(e.g. direct claims sold in direct credit markets such as MONEY OR
CAPITAL MARKET)

Methods of Direct Financing:
a. Private placements selling of securities by private negotiation
Directly to insurance companies, commercial banks, pension
funds and wealthy individual investors
b. Brokers and dealersa BROKER acts as intermediary between
buyers and sellers but do not take title to the securities traded
while a DEALER is one who is in a security business acting as a
principal rather than an agent.
c. Investment bankersa person who provides financial advice and
who distributes new investment securities

2. Indirect Finance(financial intermediation)lending by an ultimate
lender to a financial intermediary that then relends to ultimate buyers
Commercial banks; Mutual Savings Banks; Credit Unions; Life
Insurance Companies; and Pension Funds

CLASSIFICATION OF FINANCIAL MARKETS
1. Primary Marketnewly issued primary and secondary securities are
traded for the first time. Large corporations needing large amount of
funds usually tap the primary market through BOND ISSUANCE.
2. Secondary Marketexisting financial securities are traded. SSUs
which bought primary from the primary market may sell the same to the
secondary market anytime they wish to change their portfolios BEFORE
maturity dates. As such, the secondary market provides LIQUIDITY to
the SSUs with securities held.

When banks buy Treasury Bills (T-bills) from the Bangko Sentral, they
do so in consideration of their clients who buy the T-bills from them and
which forms a solid secondary market.

3. Money Marketdebt securities with an original maturity of one year
or less are traded. Long-term maturities may also be traded in the
money market if they have 6 months or less left to maturity.
Example: Land Bank of the Philippines
4. Capital Markettrading is undertaken for securities with maturity of
MORE THAN ONE YEAR. Include banks that bid for TWO-YEAR T-Bills.

a. Bond marketthe market for debt instruments of any kind. Operates
through a system of dealers using a telecommunication network,
rather than a single physical location for trading. (Ex. Giant banking
firms around the world)
b. Stock Marketcommon and preferred stocks issued by corporations
are traded.
b.1 organized exchanges(New York and London Stock Exchanges;
Philippine Stock Exchange)
banks
financial service
communication
power and energy
transportation services
construction and other related products
food, beverages and tobacco
holding firms
manufacturing, distribution and trading
hotel, recreation and other services
bonds, preferred stocks and warrants
others
c. Mortgage Marketdeals with loans on residential, commercial and
industrial real estate, and on farmland
Foreclosed properties
Social Security Systemgrants mortgage loans, secured by house
and lot as collaterals
5. Consumer Credit Marketloans on autos, appliances, education,
travel, salary and personal loans
6. Auction Markettrading is conducted by an independent third party
according to a matching of prices on orders received to buy and sell a
particular security. Stocks are sold to the HIGHEST bidder on the
trading floors. (Philippine Stock Exchange)
7. Negotiation Marketbuyers and sellers of securities negotiate with
each other regarding price and volume, either directly or through a
broker or dealer. (Philippine government negotiates with the World Bank
for loans intended for various projects.)
8. Organized Markethas FIXED trading rules. (Example: Philippine
Stock Exchange) Situated at a central location in financial district.
9. Over-the-Counter Marketlarge collection of brokers and dealers
connected electronically by telephones and computers that provide for
trading in UNLISTED SECURITIES.
10. Spot MarketSecurities are traded for IMMEDIATE delivery and
payment. (one or two days depending on facilities used). It is an
alternative to Futures Market.
11. Futures Marketmarket where contracts are originated and traded that
give the broker the right to buy something in the future at a price
specified by the contract.
12. Options Marketstock options are traded.
A STOCK OPTION is a contract giving the owner the right to
either buy or sell a fixed number of shares of a stock (usually
100) at any time before the expiration date at a price specified in
the option. (Example: gold and treasury bonds) makes possible
for investors who wish to reduce the risk of losing money due to
price changes in the future. (Importer purchasing goods to be paid
in foreign currency may avoid the risk of a sharp rise in the foreign
exchange rate by buying an options market.
13. Foreign Exchange Marketwhere people buy and sell foreign
currencies (banks, foreign exchange dealers, currency exchanges)

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