Modern Portfolio Theory-Effect of Diversification on the Optimal Portfolio-Portfolio Management in Python
To continue, we are going to perform some numerical experiments. Specifically, we are going to use the portfolio optimization program developed in the previous post in order to study the effect of diversification.
In finance, diversification is the process of allocating capital in a way that reduces the exposure to any one particular asset or risk. A common path towards diversification is to reduce risk or volatility by investing in a variety of assets. If asset prices do not change in perfect synchrony, a diversified portfolio will have less variance than the weighted average variance of its constituent assets, and often less volatility than the least volatile of its constituents.
... Every equally weighted, uncorrelated asset added to a portfolio can add to that portfolio's measured diversification. When assets are not uniformly uncorrelated, a weighting approach that puts assets in proportion to their relative correlation can maximize the available diversification. Read more
It’s well-known that if we add an asset that is negatively correlated with the existing assets in the portfolio, then it will likely result in a higher risk-adjusted return, i.e. a higher Sharpe ratio. For this reason, in the previous examples, Gold was included as a diversifier.
In this post, we expand our 3-ETF portfolio by adding volatility-related instruments that are known to be negatively correlated with the equity market. We will use our Python program and explore whether the inclusion of a negatively correlated asset would enhance the portfolio’s risk-adjusted return.
Adding VXX ETF
We first add VXX, a volatility Exchange Traded Fund, to the portfolio and run the Python program. The picture below shows the optimal portfolio’s composition and the Sharpe ratio.
It’s interesting to note that the program determined the weight of VXX to be zero, and consequently, the Sharpe ratio is unchanged. This is probably because the return of VXX is too negative (-66% per annum) so there is no benefit of adding it to the portfolio. Also, the volatility of VXX is high, and adding a volatile asset to a portfolio is not diversification.
Adding spot VIX
We next add spot VIX to the portfolio. Note that spot VIX is not a tradable asset. We do this exercise merely for the sake of numerical experimentation.
The figure below shows the optimal portfolio’s composition and the Sharpe ratio. This time we obtained indeed a higher Sharpe ratio (an increase from 1.17 to 1.45). It’s interesting to note that Gold is now eliminated from the portfolio.
In summary, this post is an exploration of how to use the optimization algorithm to study the effect of diversification. Readers are encouraged to experiment with other asset classes.
Last and not least, do not forget the assumptions of the Modern Portfolio Theory.
Click on the link below to download the Python program and data files.
Originally Published Here: Modern Portfolio Theory-Effect of Diversification on the Optimal Portfolio-Portfolio Management in Python
A dividend is a payment made from companies to their shareholders. These payments come from the earnings the companies generate from their financial activities. Most companies distribute these payments to compensate their shareholders for their investments. Paying dividends is prevalent among companies. Sometimes, however, companies may also pay their shareholders special dividends.
What is a Special Dividend?
A special dividend, as the name implies, is a dividend paid by companies on special occasions. There are no requirements for companies to pay these dividends. However, they may still make payments to shareholders if they wanted. Special dividends are non-recurring payments, usually in monetary form. These are also a higher amount compared to normal dividends. Another name for special dividends is extra dividends.
How do Special Dividends work?
Special dividends are one-time payments made to shareholders. However, the process behind it is similar to that of usual dividends. Companies pay special dividends based on the current number of shares that shareholders own. Once a company’s management realizes it has substantial cash resources that there is no use for, they may consider paying out special dividends.
Compared to regular dividends, special dividends are unpredictable. Regular dividends usually come during specific periods, such as quarterly or annually. The amount the companies pay as dividends may vary but, usually, follow historical trends. On the other hand, there are no requirements for how much companies may pay as special dividends.
Special dividends are significantly different in their nature from regular dividends. These don’t come at specific periods. Similarly, they don’t come after a company has calculated its financial performance. Investors and analysts do not consider these dividends when calculating a company’s expected returns.
Usually, special dividends come from stable companies with substantial cash resources. Other companies may use the resources for projects. However, for some companies, the cash may not suffice for projects. Similarly, some companies may not have any plans for their extra resources. Therefore, they may distribute it as special dividends.
Why do companies pay Special Dividends?
Companies don't need a reason to distribute special dividends to shareholders. However, that does not mean these occur after usual, predictable intervals. Usually, companies pay dividends for several purposes. As mentioned above, the most common reason is to distribute extra cash reserves to shareholders for which companies have no use.
Some companies may also use special dividends to send a positive signal to the market. By paying one-time dividends, companies can give shareholders and investors confidence in their ability to make profits. Similarly, some companies going through financial structure changes may also use special dividends to restructure their capital.
What are the disadvantages of Special Dividends for companies?
While paying special dividends has its benefits, it can also be disadvantageous for companies. Firstly, by paying dividends, companies lose cash reserves. While it is not necessarily a bad thing, by investing the cash, companies can generate extra returns. Similarly, some shareholders and the market may perceive special dividends as a company’s lack of plans. It may also end up hurting the company’s future.
Aside from regular dividends, companies may also pay special dividends. However, special dividends are one-time payments. The process of special dividends is similar to regular dividends. There are various reasons why companies pay special dividends. However, it may have some disadvantages for the company.
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What Is a Reverse Stock Split?
A reverse stock split is a process used by companies to reduce the number of their outstanding shares in the market. Companies use reverse stock splits to consolidate their existing shares into fewer but proportionately more valuable shares. Reverse stock splits can provide a boost to a company's stock prices.
Through a reverse stock split, companies divide their existing total outstanding shares by a number. For example, companies can use a 1-for-5 reverse split to convert every five shares into one. Other names used for the reverse stock split is stock consolidation, stock merge, or share rollback. Companies may use it according to their situation.
How does a Reverse Stock Split work?
Companies usually don't use reverse stock splits. However, due to market situations, they may take action to restructure their capital structure. One of these actions includes reverse stock splits, where company merge their existing shares. It allows them to reduce the number of their outstanding shares while also increasing the proportional value. However, it does not impact a company's overall valuation.
While restructuring their capital structure is a reason to use a reverse stock split, companies usually use it to boost their share prices. It may go in a company's favour or against it. However, it depends on how a company uses reverse stock splits and the market conditions that accompany them. Usually, reverse stock splits come from a company's management but still have to go through a shareholders' approval.
What are the advantages of Reverse Stock Splits?
Reverse stock splits can have some advantages. These advantages are the reason why some companies may opt to use reverse stock splits. Firstly, some companies may use these splits to stay on a major stock exchange. Some exchanges have rules for how far a company's stock prices can fall before they get removed. Therefore, companies nearing that limit may prevent their removal by using reverse stock splits.
Companies may also use reverse stock splits to satisfy regulations. Some companies may face specific regulations related to the number of their outstanding shares. By reducing the number, they can avoid these regulations. Some companies may also use reverse stock splits to attract affluent investors. By increasing their outstanding shares, they can improve their exposure to investors that select high-priced shares for their portfolios.
Is Reverse Stock Split good or bad?
Reverse stock splits can be beneficial for companies if used correctly. However, they may send a negative signal about a company. Usually, companies that use reverse stock splits do so to increase their share prices. However, investors may see it as a last effort by a company's management to avoid removal from a major stock exchange.
For existing investors, theoretically, reverse stock splits shouldn't be problematic. It is because the company's valuation remains unchanged. However, once a company uses a reverse stock split, its stock prices may go down in the market due to the negative perception that comes with it. Therefore, it can also impact existing shareholders adversely
Companies use reverse stock splits to reduce the number of their outstanding shares in the market. There are various advantages of using reverse stock splits. However, they are usually bad for investors. It is because they come with a negative signal, which can affect investors adversely.
Originally Published Here: Is Reverse Stock Split Good or Bad
What is a Stock Split?
A stock split is when companies divide their existing shares into multiple new shares. Usually, the goal with stock splits is to decrease stock prices and boost liquidity. Usually, companies use multiples to increase their shares outstanding. For example, companies may use 3-for-1 or 4-for-1 stock splits. It means that they will convert each share that shareholders own to 3 or 4 shares.
While companies may use a stock split to reduce their share prices, it does not affect their overall valuation. Therefore, stock splits do not impact a company's shareholders' total equity or their wealth. Instead, it aims to increase the number of shares that a company has in circulation in the market.
How does a Stock Split work?
Stock splits are prevalent among publicly traded companies. Companies usually grow in size due to their past performances, new acquisitions, new product, or share repurchases. This growth in size brings various benefits for the company, such as an increased share price in the market. However, some investors may not be able to purchase their shares at higher prices.
Therefore, companies announce stock splits. As mentioned, companies used multiples for stock splits. For example, a company using a 2-for-1 stock split will double its total number of outstanding shares. If the shares were worth $10 each before the split, their value becomes $5 after. Shareholders will have the same worth of shares before and after the process. However, the number of shares will differ.
Investors who couldn’t afford a company’s shares at $10 may be able to afford it at half the price. For the company using the stock split, it opens up more sources of finance. That is why it is most common among large companies that want to increase their share liquidity.
What are the advantages of Stock Splits?
The most beneficial consequence of stock splits is that it makes a company's shares more liquid. It doesn't only benefit new investors looking to purchase the company's shares. It also helps the existing shareholders by allowing them to dispose of their holding easily. It also makes it easier for portfolio managers to rebalance their portfolios.
Unlike reverse stock splits, stock splits can actually result in higher share prices in the future. It is because the reduced prices increase the demand for a company’s shares. The increased demand, in turn, increases the company’s share prices. Most companies have experienced a growth in share prices after announcing stock splits.
Is Stock Split good or bad?
Stock splits can be good if used properly. However, most experts believe that they are bad. Firstly, stock splits decrease a company's share prices. Doing so attracts retail investors and may discourage quality investors from investing in a company. Similarly, stock splits could increase volatility in the market because of the new share price. While an increased demand in a company's stock can increase its share prices, it also makes it more volatile.
Lastly, stock splits don’t always result in increased prices. These can lead to risks that investors or the market may view the split as a negative signal. Thus, it can also result in a decrease in a company’s share prices in the market.
Companies use a stock split to divide their existing shares into multiple new shares. It allows them to boost their share's liquidity. Stock splits are the most common among large companies. These can be advantageous and can increase a company's share prices in the future. However, stock splits may also be bad as they cause volatility. They also bring low-quality investors.
Post Source Here: Is Stock Split Good or Bad?
What is Book Value Per Share?
Book value per share (BVPS) is a metric used to calculate a company's per-share book value. It uses the common shareholders' equity balance of a company. Therefore, it is also known as the book value per common share. Calculating a company’s book value per share is relatively easier as the figures are available in the company’s Financial Statements.
What is the formula to calculate the Book Value Per Share?
The formula to calculate the book value per share of a company is as below.
Book Value Per Share (BVPS) = (Shareholders’ Equity - Preferred Stock) / Average Shares Outstanding
Investors may also use the total shares outstanding of a company at the end of its accounting period. However, for companies with variable shares outstanding during a period, the average shares outstanding formula produces a better result. Using the closing number of shares may produce inaccurate or misleading results if there are fluctuations in the number of outstanding stocks during a period.
A company, Red Co., has shareholders’ equity equal to $10 million. Out of this balance, $2 million relates to preferred stocks. Red Co. had 3 million shares outstanding at the start of the period. However, its closing shares outstanding were 5 million. Therefore, Red Co.’s book value per share will be as follows.
Book Value Per Share (BVPS) = (Shareholders’ Equity - Preferred Stock) / Average Shares Outstanding
Book Value Per Share (BVPS) = ($10 million - $2 million) / [(3 million + 5 million) / 2]
Book Value Per Share (BVPS) = $8 million / 4 million
Book Value Per Share (BVPS) = $2/share
How can investors use a company’s Book Value Per Share?
For most investors, the Book Value Per share can be crucial in exploiting profitability opportunities. Investors use a company’s BVPS as a comparative tool with its market value per share (MVPS). Both these valuations come from various sources. What investors look for when comparing both these figures is how they differ from each other.
A company’s BVPS can be higher, lower, or equal to its MVPS. If its BVPS is higher than its MVPS, then it means that the company’s stock is undervalued in the market. Therefore, investors prefer to buy the stock and profit from it when the company’s BVPS and MVPS equalize. A BVPS lower than MVPS can have the opposite effect. In these cases, investors prefer to dispose of their shares at the earliest possible. Lastly, an equal BVPS and MVPS indicate a proper market valuation of a company’s stocks.
What are the limitations of Book Value Per Share?
The book value per share can have some limitations as a valuation method. It uses a company’s book value, which companies can manipulate to get better results. Similarly, it does not consider other material factors that may affect a company's share prices. For some companies, the book value may not represent the best valuation measure, especially those with high liabilities.
Book value per share is a metric that investors use to calculate a company's per-share book value. It takes the ratio of a company's equity available to shareholders against the number of its shares outstanding. Investors can use a company’s BVPS to find under or overvalued stocks to profit from these opportunities.
Originally Published Here: Book Value Per Share
What is an Income Trust?
An income trust is an investment that may hold various types of securities. These may include equities, debt instruments, real estate, etc. It is beneficial for the financial requirements of institutional investors, such as pension funds. Similarly, old-age investors may also prefer income trust that can provide a steady return.
The primary reason why income trusts are attractive is the promise of paying investors a steady income. These become more attractive when the prevalent bonds in the market yield low cash returns. Most investors prefer income trusts because they do not target unrelated investments. If an income trust is for stock investments, it cannot target real estate investments or vice versa.
There are various structures for income trusts. They may either come in the form of personal investment funds or commercial trusts with publicly traded fund shares. Usually, income trusts have managers that actively manage it and seek to build a diversified portfolio for investors. The goal with these portfolios is to include assets that produce a steady income.
What is a Personal Income Trust?
Income trusts may come in the form of trust funds used to manage the portfolios for a closed group of people. It is common for families to use income trusts to manage their collective assets or structure inheritances. The goal for income trusts is to contain income-producing assets. Usually, a trustee manages these trusts on behalf of the trustor to pass the asset to the trust's beneficiary.
Personal income trusts may include various terms. These may consist of terms related to the beneficiary's involvement and inheritance transfer. These terms will also provide details about how the trustee should manage and administrate the trust. Apart from these, they may also include more detailed terms associated with various aspects of trust.
What are Publicly Traded Income Trusts?
Publicly traded income trusts are different from private income trusts. Investors can buy the shares to public income trusts on the financial market. However, they can only find income trusts registered as corporations in the financial markets. The most common form of publicly traded income trusts is Real Estate Investment Trusts (REIT).
REITs offer publicly traded shares on the open market. The purpose of REITs is to build a portfolio of income-paying investments. However, these investments are only in real estate. It represents a great investment for investors looking to diversify their portfolio through asset allocation. Similarly, it is a suitable option for income-focused investors.
What are the risks of Income Trusts for investors?
Income trusts have similar risks for investors as dividend-paying stocks. It is because income trusts are equity investments and not fixed-income securities. Therefore, they share the same risks that come with stock ownership for investors. However, they may not come with the same rights and responsibilities. For example, they do not come with voting rights like traditional stock.
Some other risks also accompany income trusts. These risks may sometimes come due to their similarities with stocks. For example, like most stocks, they do not come with guaranteed income. Similarly, investors get exposed to interest rate risk when investing in income trusts.
Income trusts are an investment which comes with various types of securities. They usually promise a steady income, which makes them more attractive to some investors. There are two prominent types of income trusts, which include personal and publicly traded income trusts.
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What is Behavioral Finance?
Behavioral finance is the study of how psychological factors influence the behavior of investors or financial analysts. It is a topic closely related and a part of behavioral economics. Behavioral finance suggests that psychological influences and biases can affect an investor or financial analyst's behavior. It also attempts to explain the sources for all types of market anomalies, especially in the stock market.
There are various perspectives through which one can analyze behavioral finance. It is mostly relevant to stock markets and returns for investors. It is an area that behavioral finance suggests psychological behaviors can influence market outcomes and returns. It is because investors can look at these factors in different ways.
What are the differences between Behavioral and Traditional Finance Theories?
The behavioral finance theory goes against the traditional finance theory in some aspects. The traditional finance theory treats the market and investors as perfectly rational. However, the behavioral finance theory treats investors as "normal" not "rational". The traditional finance theory also suggests that investors have perfect self-control. In contrast, the behavioral theory suggests investors have limits to their self-control.
The traditional finance theory also suggests that investors truly care about utilitarian characteristics. However, the behavioral finance theory implies that investors get influenced by their own biases. Lastly, the traditional finance theory also suggests that investors don't allow cognitive or information processing errors to affect their decisions. The behavioral finance theory believes that investors make cognitive errors which can lead to wrong conclusions.
What are the concepts in Behavioral Finance?
Behavioral finance has five main concepts. The first concept is that of mental accounting. It refers to the propensity for people to allocate money for specific purposes. Behavior finance also includes herd behavior. This concept suggests that financial participants are likely to imitate the financial behavior of the majority.
Behavioral finance also consists of the emotional gap concept. It refers to decision-making based on extreme emotions or emotional strains. It suggests that investors may allow emotions, such as anxiety, anger, excitement, or fear to influence their decisions. Behavioral finance also proves that emotions are often the primary factors for irrational decisions.
The fourth concept within behavioral finance is anchoring. It refers to attaching a spending level to a particular reference. It can give rise to anchoring bias which can cause investors to make incorrect financial decisions. Lastly, behavioral finance also includes the concept of self-attribution. It refers to the tendency of financial participants to make choices based on confidence in self-based knowledge.
What are the different types of biases in Behavioral Finance?
Behavioral finance tries to explain the impact of personal biases on investors and their decision-making. These biases may relate to various factors and can stem from several sources. Among the top biases in behavioral finance, the most prevalent ones are as below.
Behavioral finance is a sub-field in behavioral economics. It studies how psychological factors can influence the behavior of financial participants. It also seeks to explain the sources for an explanation for all types of market anomalies. There are various concepts in behavioral finance. Similarly, it also has different types of biases.
Originally Published Here: What Is Behavioral Finance
What is an Initial Public Offering (IPO)?
An initial public offering (IPO) is a process that companies use to offer their shares to the public. These companies are private entities that want to go public with new stock issuance. Issuing shares to the public allows companies to raise funds from public investors. Therefore, it gives them access to a high number of investors, allowing them access to theoretically unlimited funds.
Most companies that go through an initial public offering experience significant change. It allows them to transition from a private to public status. It is also a crucial period for private investors to realize gains from their investments. It is because IPOs include share premiums for current private investors. Similarly, it lets public investors participate in a company's offerings.
What is the Initial Public Offering process?
An initial public offering signifies the first time a company goes public. Before the process, it is private. Most private companies have a limited scope for growth and funds. It is because they have a relatively small number of investors, which mostly consist of its founders. By going public, companies can tap into a theoretically unlimited amount of funds by allowing the public to contribute to their finances.
When a private company reaches a growth stage, it may decide to go through an IPO. However, IPOs usually come with strict rules and regulations from the SEC. Therefore, companies must ensure that they can go through the process before deciding to go public. Once the company finalizes its decision, it will advertise its interest in going public to grab public attention.
The next step for companies is to select an investment bank. It is a company or bank that advises the company on its IPO and provides underwriting services. Companies may look at various criteria when selecting an investment bank, including its reputation, quality of research, industry expertise, etc. With underwriting services, the investment bank acts as a broker between the company and the public.
The next step in the IPO process is to carry out due diligence and make regulatory filings. These are all steps that the investment bank carries out. Through due diligence, underwriters can decide the share price of a company’s initial issues. Similarly, regulatory findings are crucial and required as a part of the SEC’s regulations.
The next step in the IPO process is the pricing of shares. There are several factors that companies and underwriters may consider before pricing shares. The due diligence process also helps in this process. Once the underwriter and company decide on the share price, they bring the issue to the market. The underwriter provides analyst recommendations, after-market stabilization and creates a market for the issued stock.
The final stage in the IPO process is the transition to market competition. It starts after 25 days of the IPO when the quiet period mandated by the SEC ends. During this period, investors transition from relying on the mandated disclosures and prospectus to relying on the market forces for information regarding their shares.
Facebook went public in May 2012 through an Initial Public Offering. The company managed to raise funds over $16 billion through the IPO. It ranks among the world’s largest IPOs to date. Saudi Aramco still has the record for the world’s largest IPO. The company went public in December 2019 and raised over $29 billion.
An initial public offering is a process that private companies use to offer their newly issued shares to the public. It allows them to generate more finance than if they use their limited number of existing shareholders. The initial public offering process has several steps, as mentioned above.
Originally Published Here: Initial Public Offering Process and Example
For most companies, raising capital through issuing stocks is a prevalent option to get funds. However, there are different ways they can generate those funds. For most companies, obtaining funds from existing financiers is a great option. However, there is a limited amount of funds that companies can generate. Therefore, they must get those funds from other parties, usually the general public.
When it comes to generating funds through the public, companies also have several options. Among these, private placements and public offerings are most common. There are differences between both options, which is crucial to understand.
What is a Private Placement?
A private placement allows companies to issue their stocks or bonds to a pre-selected pool of investors and institutions. They don't go to the open market to get these funds. It is a great alternative to public offerings, especially for companies looking to stay private. For public offerings, companies have to change their status to the public.
Usually, companies select investors from different sources. These may include wealthy investors, banks and other financial institutions, insurance companies, pension funds, mutual funds, etc. The selection process of these investors differs according to every company. However, companies always target investors that can provide a sizeable investment.
Private placements, unlike public offerings, have relatively fewer requirements and standards. For most companies, going through the additional regulatory procedures may not be worth generating the finance. Therefore, they may prefer private placements as opposed to public offerings. Companies don’t have to provide detailed information to investors either. However, they may still do it.
Private placements are most common for startups that want to raise finance. Mostly, startups within the e-commerce and financial technology sectors benefit from private placements. Private placements allow companies to grow and develop while avoiding regulations that come with public offerings. The process is also quicker, making it easier for startups to generate funds.
What is a Public Offering?
Unlike private placements, companies do not limit their options with public offerings. Companies that use public offerings offer their stocks or securities to the public through a market. During the process, the company also becomes public, allowing its securities to trade in the market. Before public offerings, companies have to offer their securities in private.
Companies start public offerings by selecting an investment bank for the process. Once they do so, they perform due diligence and make the necessary filings. Similarly, companies also decide on a price for their securities. There are several factors that they weigh in to make a pricing decision. Once they go public, companies perform further analysis to ensure after-market stabilization. Next, companies have to go through a quiet period after which they can transition to market competition.
Public offerings allow companies to generate significantly more finance. In theory, companies don’t have to stay limited to a few selected investors. They can receive funds from an unlimited number of investors. Similarly, once a company goes public, it can use the same process in the future to generate more funds. However, public offerings come with stricter regulations to which companies must oblige.
There's also an extra party involved in public offerings known as underwriters, or the investment bank. These are institutions or firms that bring a company's issues to the market. These firms sell shares to their clients at the initial sales price. Once these shares go through their investors, other investors can obtain them after the company's shares start trading in the market.
Companies can generate funds through several sources. For this process, they may either use private placements or public offerings. With a private placement, companies offer their shares to a pre-selected pool of investors. With public offerings, companies can get funds from the public, not limited to a pool of investors.
Article Source Here: Private Placement vs Public Offering
A market is a place for buyers and sellers to come together and connect. Financial markets are similar as they bring market participants together for financial transactions. These usually include financial assets, such as stocks, bonds, commodities, currencies, derivatives, etc. Their objective is to regulate prices for trading, increase capital and transfer risk and liquidity.
There are two prominent types of financial markets. These are the money market and the capital market, both of which have specific purposes and regulations. Therefore, it is crucial to understand the difference between them.
What is a Money Market?
A money market is a financial market where buyers and sellers trade in short-term debt investments. It involves a large volume of trades between institutions and traders, usually at a wholesale level. Similarly, smaller money markets include money market mutual funds bought by individual investors. Likewise, they may also consist of money market accounts available to bank customers.
Money markets have various characteristics. Among these, the most prominent is a high degree of safety and relatively low returns. However, they play a crucial role in the global financial system. Institutions, including banks, participate in a money market and lend money to other entities. Similarly, individuals can also participate in the market.
What is a Capital Market?
A capital market is a financial market where transfers of capital between investors happen. Usually, investors dispose of funds to individuals and businesses that need them for projects. Two types of instruments are most common in capital markets, equity securities, and debt securities. Apart from these, capital markets may also include currencies, commodities, or derivatives.
There are two types of capital markets, primary and secondary. Primary capital markets involve the issuance and sale of new securities. In contrast, secondary capital markets involve the issuance and sale of already-issued securities. Stock markets, bond markets, and currency and foreign exchange markets are all examples of capital markets.
What are the differences between Money and Capital Markets?
There are several differentiating features between money and capital markets. Among those, the most prominent are as below.
A money market is a financial market where borrowing and lending take place for a short period. A capital market is a financial market where borrowing and lending take place for a long period.
A money market usually involves promissory notes, bills of exchange, call money, commercial paper, etc. A capital market involves deals in equity and debt instruments along with derivatives and other instruments.
The money market consists of financial institutions, including financial, commercial, and central banks. On the other hand, capital markets involve brokers, mutual funds, investors, banks, stock exchanges, and many more.
Money markets and investments within them are more liquid. For investors looking for investment liquidity, money markets are the best option. Capital markets, while still liquid, are relatively less so.
Due to their high liquidity and short period, money markets offer less risky investments. In contrast, the risks involved in capital markets are comparatively higher.
Money markets, due to their stability, offer lower returns to investors. In contrast, capital markets provide higher returns due to the higher risks involved.
Money and capital markets are two prominent types of financial markets. Both are viable options for investors. Money markets are for short-term debt investments but have larger volumes of trades. Capital markets are for long-term investments, including stocks, debt, commodities, and other instruments.
Article Source Here: Money Market vs Capital Market