Financial markets are the foundation of the modern financial system. They allow investors to buy and sell financial assets, while providing companies and governments with access to capital. Every investment, whether a share, bond, fund, or ETF, exists within the financial market.
Understanding how financial markets work is essential for investors. It provides the context needed to understand how investments are created, traded, and valued, as well as the factors that influence prices and market activity.
What You Will Learn
By the end of this chapter, you will understand:
- What financial markets are
- Why financial markets exist
- How financial markets support economic growth
- The role of different market participants
- The difference between primary and secondary markets
- How prices are determined
- The structure of global financial markets
The Purpose of Financial Markets
Financial markets are organized systems where financial assets are issued, bought, and sold. These assets include equities, bonds, exchange-traded funds (ETFs), investment funds, and other securities.
The primary purpose of financial markets is to connect those who need capital with those who have capital available to invest. Companies use financial markets to raise funds for expansion and development, while governments use them to finance public spending and infrastructure projects. Investors provide this capital in exchange for the potential to earn future returns.
By directing capital towards productive activities, financial markets support innovation, business growth, employment, and broader economic development.
Who Participates in Financial Markets?
Financial markets involve a variety of participants, each serving a different purpose. Investors provide capital by purchasing financial assets, while companies and governments raise capital to support their activities and future growth.
Financial institutions, including banks, investment firms, fund managers, and stock exchanges, help facilitate transactions and ensure that markets operate efficiently. Together, these participants create a financial ecosystem that allows capital to flow throughout the economy.
How Securities Are Issued and Traded
Financial markets operate through two main stages: the primary market and the secondary market.
The primary market is where new securities are issued for the first time. When a company launches an Initial Public Offering (IPO) or a government issues a new bond, investors purchase these securities directly from the issuer. The capital raised flows directly to the organization seeking funding.
Once issued, securities can be bought and sold between investors in the secondary market. This trading activity takes place on exchanges such as the Malta Stock Exchange and other global markets. The secondary market provides liquidity, allowing investors to enter or exit investments without waiting for the issuer to repay or redeem the security.
Supply, Demand and Market Prices
The market value of a financial asset is determined by supply and demand. When more investors want to buy a security rather than sell it, the price generally rises. When more investors want to sell than buy, the price tends to fall.
This process, known as price discovery, takes place continuously as market participants react to new information. Company performance, economic conditions, interest rates, inflation, and investor expectations can all influence demand and ultimately affect market prices.
Understanding supply and demand is fundamental to understanding why market prices change over time.
Financial Market Around the World
Although investors often focus on their local market, financial markets operate on a global scale. Major financial centers include the Malta Stock Exchange, London Stock Exchange, Euronext, Frankfurt Stock Exchange, New York Stock Exchange, and Nasdaq.
These markets are closely connected. Economic developments, interest rate decisions, geopolitical events, and corporate earnings announcements can influence investor sentiment across multiple regions. As a result, events occurring in one market may affect investment prices in another.
For investors, global markets provide access to a broader range of investment opportunities while also highlighting the importance of understanding international economic and market developments.
Key Takeaways
- Market prices reflect the most recent transaction between buyers and sellers.
- Financial markets connect investors with companies and governments seeking capital.
- Capital raised through financial markets supports business growth and economic development.
- Investors, governments, companies, and financial institutions all play important roles in the financial system.
- Securities are issued in the primary market and traded in the secondary market.
- Market prices are determined through supply and demand.
- Financial markets operate globally and are increasingly interconnected.
Next Chapter
The next chapter introduces the fundamentals of equity investing, including shares, stock exchanges, market capitalization, indices, trading volume, and common order types.