As the name implies, financial markets are marketplaces that allow for the sale of financial assets. These assets include stocks, shares, bonds, and several other products.
These markets are often lumped under other terms, such as Wall Street. But effectively, they all do the same thing – give you a chance to invest in financial vehicles.
When the markets work as they’re supposed to, both investors and the people handling the investments make money. When they’re not, which is usually a case of a company’s stock tanking or a financial vehicle taking a beating in the market, the investor stands to lose money.
To ensure you’re on the winning end more often than the losing one, you need to know about the different types of financial markets and their key functions.
The Types of Financial Markets
There are hundreds of financial markets, both big and small, all over the world. However, all generally fall under the umbrella of one of these four types of markets.
Type No. 1 – Stock Markets
Perhaps the most familiar of the financial markets, stock markets allow investors to trade stocks in a company.
When a company makes a public offering, it opens up the sale of its stocks in whichever market it trades on. The investor can buy stocks to hold them until they increase in value enough to provide a strong return on investment.
The challenge here is that not all stocks are made equal. Some will decline in value, leading to the investor losing money.
Type No. 2 – Commodities Markets
These are the markets investors use to buy natural and valuable resources, such as gold, oil, and corn.
The products have their own market because prices around them fluctuate so quickly. We’re seeing this in action at the time of writing with the massive increase in oil prices over the last 12 months.
Type No. 3 – Bond Markets
Bonds allow both companies and the government to attract money for upcoming projects.
They work similarly to stocks in the sense that a company offers bonds that an investor purchases. However, the purchase is made under the agreement that the company offering the bonds will buy them back, with interest added onto the original fee, at a designated point in the future.
Bonds are one of the safest financial vehicles because they’re not as vulnerable to the fluctuations caused by day trading.
Type No. 4 – Derivatives Markets
Derivatives cover several types of financial vehicles, such as futures.
Generally speaking, this market involves trades of contracts or derivatives based on the current or potential future market value of the asset you’re trading.
In the case of futures, an investor may seal the price of an asset today and take delivery of it a couple of years into the future.
If they’re fortunate, the value of the asset will increase during that time, allowing them to profit from the investment. If they’re unfortunate, the asset decreases in value and they lose out.
The Key Functions of Financial Markets
Combined, the above types of financial markets serve several key functions, including the following:
- Determining the prices of securities, stocks, and other financial vehicles.
- Facilitating transactions between traders.
- Allowing savings to be put towards better use. For example, the money you invest into a savings plan may be invested in financial markets to generate a strong return that you benefit from in retirement.
- Allowing investors to make their assets liquid, such as when an investor sells their stocks to get cash.
Ultimately, you can think of financial markets as the facilitators of transactions related to financial vehicles.
They provide individuals, companies, and governments with access to capital needed for projects and growth. And they offer investors a chance to contribute to the growth of a company or asset before benefitting from that growth.
Note: Please do not invest money or assets in the financial markets that you cannot afford to lose. This article should not be construed to be investment advice and is for information purposes only