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importance of stock market

Function and purpose


the stock market is one of the most important sources for companies to raise money. This allows businesses to be publicly traded, or raise additional financial capital for expansion by selling shares of ownership of the company in a public market. The liquidity that an exchange affords the investors gives them the ability to quickly and easily sell securities. This is an attractive feature of investing in stocks, [citation needed] compared to other less liquid investments such as real estate. Some companies actively [11][12] increase liquidity by trading in their own shares. History has shown that the price of shares and other assets is an important part of the dynamics of economic activity, and can influence or be an indicator of social mood. An economy where the stock market is on the rise is considered to be an up-and-coming economy. In fact, the stock market is often [citation needed] considered the primary indicator of a country's economic strength and development. Rising share prices, for instance, tend to be associated with increased business investment and vice versa. Share prices also affect the wealth of households and their consumption. Therefore, central banks tend to keep an eye on the control and behavior of the stock market and, in general, on the smooth [citation needed] operation of financial system functions. Financial stability is the raison d'tre of central banks. Exchanges also act as the clearinghouse for each transaction, meaning that they collect and deliver the shares, and guarantee payment to the seller of a security. This eliminates the risk to an individual buyer [citation needed] or seller that thecounterparty could default on the transaction. The smooth functioning of all these activities facilitates economic growth in that lower costs and enterprise risks promote the production of goods and services as well as possibly employment. In this [citation needed] way the financial system is assumed to contribute to increased prosperity. [edit]Relation

of the stock market to the modern financial system

The financial system in most western countries has undergone a remarkable transformation. One feature of this development isdisintermediation. A portion of the funds involved in saving and financing, flows directly to the financial markets instead of being routed via the traditional bank lending and deposit operations. The general public interest in investing in the stock market, either directly or through mutual funds, has been an important component of this process. Statistics show that in recent decades shares have made up an increasingly large proportion of households' financial assets in many countries. In the 1970s, in Sweden, deposit accounts and other very liquid assets with little risk made up almost 60 percent of households' financial wealth, compared to less than 20 percent in the 2000s. The major part of this adjustment is that financial portfolioshave gone directly to shares but a good deal now takes the form of various kinds of institutional investment for groups of individuals, e.g., pension funds, mutual funds, hedge funds, insurance investment of premiums, etc. The trend towards forms of saving with a higher risk has been accentuated by new rules for most funds and insurance, permitting a higher proportion of shares to bonds. Similar tendencies are to be found in other industrialized countries. In all developed economic systems, such as the European Union, the United States, Japan and other developed nations, the trend has been the same: saving has moved away from traditional (government insured) bank deposits to more risky securities of one sort or another

Primary and Secondary Market It is very important for a new investor to gain a good knowledge of the different kinds of financial markets for effective trading. At a macro-level, financial markets can be of 2 kinds: 1. Money Market: Here the securities traded should pay off in a short span, for example in less than 1 year. These markets generally deal in treasury bills, commercial papers, bankers' acceptance, certificates of deposits, etc., which pay off in the short term. 2. Capital Market: Here long-term equities and shares are issued and traded. Capital markets are where most of the traffic of trading occurs. Capital market are sub-divided into a. Primary Market b. Secondary Market In primary markets, new securities are traded for the first time. Companies, government, or public sector units (PSUs) can issue securities in this market through Initial public offerings (IPOs), rights issue (for existing companies), and preferential issue. The process of underwriting or issuing new bonds to investors is done through the help of a securities dealer. The commission of these dealers is based on the price of the security offering. Another name for the primary market is the New Issue Market (NIM) as here securities are sold for the first time. This also encourages long-term capital investment. The companies in this market can issue security directly to the investor and earn the money out of it. Companies new to the market or thinking of expansion usually generate capital for themselves by issuing securities in this market. The assets sold in the primary market can only be redeemed by the original holder as a disadvantage. Contrary to the popular belief that primary market is not for small investors, it can be quite safe an option for them in the wake of the demat scam in which a big investor showcased as a small investor and squandered money. Mutual funds investing in IPOs and Follow-up Public Offers (FPOs) are also being sought after by small investors. However, the fact remains that most of the trading still occurs in secondary markets. In a secondary market, securities that are traded have been already offered to public in a primary market and listed in an exchange, such as the NYSE. The securities that can be traded in the secondary markets include equity shares, bonds, etc. Trading in this kind of a market is done through a stock broker.

In order to comply with the regulations laid down by the Sarbanes-Oxley Act, private secondary markets have been formed. Institutional or accredited investors use these markets for trading of unregistered and private securities.