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A financial market is a market in which people and entities can trade financial securities, commodities, and other fungible items of value at low transaction costs and at prices that reflect supply and demand. Securities include stocks and bonds, and commodities include precious metals or agricultural goods.
There are both general markets (where many commodities are traded) and specialized markets (where only one commodity is traded). Markets work by placing many interested buyers and sellers, including households, firms, and government agences, in one “place”, thus making it easier for them to find each other. An economy which relies primarily on interactions between buyers and sellers to allocate resources is known as a market economy in contrast either to a command economy or to a non-market economy such as a gift economy.
In finance, financial markets facilitate:
- The raising of capital (in the capital markets)
- The transfer of risk (in the derivatives markets)
- Price discovery
- Global transactions with integration of financial markets
- The transfer of liquidity (in the money markets)
- International trade (in the currency markets)
– and are used to match those who want capital to those who have it.
Typically a borrower issues a receipt to the lender promising to pay back the capital. These receipts are securities which may be freely bought or sold. In return for lending money to the borrower, the lender will expect some compensation in the form of interest or dividends. This return on investment is a necessary part of markets to ensure that funds are supplied to them
In mathematical finance, the concept continuous-time Brownian motion stochastic process is sometimes used as a model.
An Introduction to the Financial Markets
What are the financial markets? If you are confused, there is a good reason. That’s because financial markets go by many terms, including capital markets, Wall Street, even the markets. Some experts even simply refer to it as the stock market, even though they are referring to stocks, bonds and commodities.
Quite simply, that is what the financial markets are – any type of financial transaction that you can think of that helps businesses grow and investors make money. Here is an overview of the financial markets, from the simple to the complex.
Stocks are shares of ownership of a public corporation which are sold to investors to allow the companies to raise a lot of cash at once. The investors profit when the companies increase their earnings which keeps the U.S. economy growing. It is easy to buy stocks, but takes a lot of knowledge to buy stocks in the right company.
To a lot of people, the Dow is the stock market. However, the Dow, which is the nickname for the Dow Jones Industrial Average, is just one component among many. There is also the Dow JonesTransportation Average and the Dow Jones UtilitiesAverage. The stocks that make up these averages are traded on the world’s exchanges, two of which include the New York Stock Exchange and the NASDAQ.
Mutual funds give you the ability to buy a lot of stocks at once. In a way, this makes them an easier tool to invest in than individual stocks. By reducing stock market volatility, they have also had a calming effect on the U.S. economy. Despite their benefits, you still need to learnhow to select a good mutual fund.
Generally, when stock prices go up, bond prices go down. However, there are many different types of bonds, including Treasury Bonds, corporate bonds, and municipal bonds. Bonds also provide some of the liquidity that keeps the U.S. economy lubricated. Their most important effect is on mortgage interest rates.
Oil is the most important commodity in the U.S. economy. The price of oil is determined in the commodities futures market. What are futures? They are a way to pay for something today that is delivered tomorrow, which helps to remove some of the volatility in the U.S. economy. However, futures also increase the trader’s leverage by allowing him to borrow the money to purchase the commodity. This can have a huge impact on the stock market, and the U.S. economy, if the trader guesses wrong.
By 2007, hedge funds increased in popularity due to their supposed higher returns for high-end investors. Since hedge funds invest heavily in futures, some argued they decreased the volatility of the stock market and therefore the U.S. economy. However, hedge fundinvestments in subprime mortgages and derivatives caused the 2009 recession. Iin 1997 the world’s largest hedge fund at the time, Long Term Capital Management, practically brought down the U.S. economy. (Updated January 4, 2010)