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Capital markets are used by investors to trade securities and by companies and governments to raise capital. An efficient capital market requires rapid price changes in response to demand and supply, liquidity, and accurate information. The market consists of debt and equity products, with the primary market being where securities are created and sold, and the secondary market being where traders buy and sell securities. The efficiency of a capital market is based on the availability and accuracy of information, with three levels of efficiency: weak, semi-strong, and strong.
A capital market can be narrowly defined as the market for investors to trade securities and more generally as the market for companies and governments to raise money or capital. An efficient capital market is one in which prices change rapidly in response to changes in demand and supply, producing “fair” prices at all times. In addition to information, an efficient capital market will generally require liquidity through a large enough collection of traders to accurately influence prices.
The capital market consists of securities, both debt products such as bonds and equity products such as stocks. It is generally defined as securities in which the issuer will have more than a year to repay the initial payment. This means that short-term securities, like Treasury bills, are traded in a different type of market, usually called the money market.
There are two main forms of the capital market. The primary market is one in which companies and governments create and sell securities, often through an underwriter. The secondary market is one in which traders buy and sell those securities among themselves, which means that the investor who ultimately redeems a debt security or receives a stock dividend is often not the investor who originally paid money to the issuer.
An efficient capital market is generally defined by the availability and accuracy of information about securities and their prices. Economic market theories are generally based on the idea that each trader has complete information about the available securities and the asking price, along with any other details that may be relevant, such as past market behavior, the performance of the company that issues the shares or probability that a debt security issuer will repay the money as promised. The more efficient a capital market is, the closer the actual situation is to this hypothetical situation. The idea is that the more efficient the market, the more informed the judgments and decisions of investors are, and therefore money is allocated in the most productive way overall.
A classification gives three levels of efficiency. A weak and efficient capital market is one in which only information about the past is reflected in security prices. A semi-strong efficient market is one in which current publicly available information is known to all investors and is reflected in prices. A strong and efficient market is one in which investors are aware of all information, even information that is not publicly available; This is indeed the situation assumed by market theories but unlikely in the real world.
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