What Are Capital & Money Markets?

Despite being bandied about regularly on business news channels and in the pages of the Wall Street Journal, few small investors know what the term "capital market" means. If they have also heard of a "money market," small investors may think of the wrong kind. That is because while activity in these markets may affect them, they are not really participants in them. Capital and money markets are where big banks, governments and major corporations raise money.

Identification

Both money and capital markets have the common characteristic of being where large organizations or already wealthy individuals can go and seek to raise funds. Money markets are where short-term public and private debt is traded. Capital markets are where long-term securities (including, but not limited to, long-term debt) is traded.

Types

Money markets deal mostly in three commodities: short-term public bonds (in the U.S. these can be either Federal or local in origin); commercial paper (short-term unsecured promissory notes issued by banks and corporations); and banker's acceptance notes (a promissory note made between banks). Money markets do exchange other financial instruments, but these three make up the bulk of money market transactions. Capital markets include the stock market and the bond market, which people commonly and correctly think of as major institutions in their own right.

Function

Most of the activity in the money market is made up of banks lending each other money to cover short-term requirements. The other major participants are large corporations, who can either issue their own commercial paper or have an aligned bank issue it for them as part of a common arrangement. Corporations, due to their usually strong credit worthiness, can issue these debt obligations where smaller business cannot. Finally, governments also need to meet short-term funding needs and issue short-term debt instruments, T-bills, for example, can mature in as little as 28 days. Capital markets have the primary market and the secondary market. The primary market is where new stock and bonds issues are sold. Corporations make new stock issues to raise capital and governments issue bonds for the same reason. The secondary market is where existing stocks and bonds are sold and is what most people think of when they imagine the stock or bond market.

Features

All capital and money markets are regulated by a state agency to prevent fraud, but obviously the effectiveness of this agency varies from country to country. In the United States, this agency is the Securities and Exchange Commission (SEC).

Misconceptions

The money market is in no way connected to a money market deposit account. The latter is a savings account that requires a high minimum deposit, sometimes involves check writing privileges, has few or no restrictions on making withdrawals and offers a higher interest rate than a conventional savings account.

Resources

• Securities and Exchange Commission