The money and capital markets are very different yet still possess some key similarities. Both markets are like two branches from the same tree: the financial system. Simply put, the money market facilitates trade in short-term debt.
The participants in the money market include governments, organizations, and firms in the financial sector. Firms typically use the money flow to get interest on their investments and roll the profits into another venture. For instance, a company can redeem treasury bills to open a new online casino for portfolio diversification.
In the money market, the transfer of debt is usually for a short term ranging from a couple of weeks to 12 months. On the other hand, the capital market consists of stocks and bonds. Stocks and bonds are financial securities that brokers, retail investors, and financial institutions purchase. When put together, the capital and money markets make up a large portion of today’s financial system.
The Money Market
The money market is the best market for companies, financial institutions, and governments to nest money in for the short run. Anyone looking to invest in the money market typically does so for 12 months or less.
It works well for both lenders and borrowers of money. Companies that have their money tied up in other investments or assets that are illiquid can turn to the money markets for help. Governments looking to run projects in the economy also utilize the money market for liquidity.
Businesses with too much cash and looking to avoid inflation can get into the money market. The money market, however, has its benefits and drawbacks. The most significant reason entities engage in it is because of its super-low risk. On the other hand, the percentage gain per annum is very low.
Financial instruments in this market include collateral loans, treasury notes, treasury bills, and deposits. The institutions involved in this market include Central Banks and commercial banks.
The Capital Market
The capital market is one where stocks and bonds are purchased and sold. Unlike the money markets, its financial securities are more volatile since buyers and sellers determine the price. Organizations looking to invest in foreign countries typically look at stock market performance to gauge the economy’s health.
Firms that delve into the capital market do so to raise cash for long-term goals. Once an organization goes public, it is determined that business expansion and a profit increase are in the works. To get involved in the capital market, a company needs to issue shares and sell bonds.
Primary and Secondary Markets
The two key divisions of the capital market are the primary and secondary markets. When an organization issues stock or bonds for sale, the trade is facilitated in the primary market. However, once the parties that acquired the shares or bonds want to sell and make capital gains, they do so in the secondary market.
It should be noted that the organization that issued the stock doesn’t receive anything from the resale of the shares. Nevertheless, the price that the shares in the secondary market sell for is monitored by the company since it affects the firm’s market capitalization.
In terms of risk, the capital market has it higher than the money market. Nonetheless, an investor who wants to get higher potential gains needs to focus on stocks and bonds.
Final Thoughts
The money and capital markets are different sides of the same coin. The money market is utilized by entities that need to get or park excess liquidity. The capital market comprises stocks and bonds that finance a firm’s long-term goals. The capital market has the potential to give investors bigger gains because of its higher risk.
