TOPIC 1: IDENTIFY THE FUNDAMENTAL CONCEPTS OF CAPITAL MARKETS

What are Capital Markets?

Think of a capital market as a meeting place, but for money. It's where people who have
extra money (like individual savers, banks, and pension funds) meet with people who
need to borrow money for a long time (like companies and governments). The main goal
is to get savings from those who have them to those who can use them to build something,
like a new factory, a road, or a school.
This flow of money is essential for a country's economic growth. Instead of money just
sitting in a bank account, it's put to productive use
• Start with a simple question: "Where do big companies like Jollibee or San
Miguel Corporation get the huge amount of money they need to build new
factories, open more branches, or expand their businesses?" The answer is
not just from their profits or a single bank loan. They go to the capital markets.
• A capital market is essentially a marketplace where those with surplus funds
(investors, like you and me, banks, and pension funds) can lend or invest their
money to those who need it for long-term projects (companies and
governments). It's the engine that drives economic growth by efficiently
channeling money from savers to borrowers.
• Think of it as a central hub where money is collected from many small sources
and then distributed to large, productive projects.

The Capital Market connects: Savers (people with extra money)

With: Borrowers (those who need money)
To fund: Growth and development (new buildings, new technologies, new roads)

Core Functions
The primary purpose of capital markets is to mobilize savings for productive long-term
investments. They perform several key functions:
 • Mobilization of Savings: Capital markets provide a platform for individuals,
institutions, and governments to invest their surplus funds, which would otherwise
remain idle. This process pools small savings into a large fund available for
investment.
• Capital Formation: By channeling savings into long-term investments, capital
markets enable businesses and governments to acquire the necessary funds for
large-scale projects, expansion, and development. This leads to increased
production, job creation, and overall economic growth.
• Price Discovery: Capital markets provide a transparent mechanism for
determining the prices of securities, like stocks and bonds. The interaction of
supply and demand from a wide range of investors establishes a fair market price
for these assets. This process ensures that capital is allocated efficiently to the
most promising and profitable ventures.
• Liquidity: Capital markets give investors the ability to easily buy and sell their long-
term financial assets without significant delays or loss of value. This liquidity
encourages investment, as it assures investors that they can convert their
investments back into cash when needed.
• Risk Diversification: By offering a variety of financial instruments, capital markets
allow investors to spread their investments across different companies, industries,
and asset types. This diversification helps to mitigate risk, as a downturn in one
investment may be offset by gains in another.

Key Characteristics
• Long-Term Focus: Unlike money markets, which deal with short-term loans and
securities, capital markets are exclusively for long-term funds, with a maturity of
more than one year.
• Government Regulation: To ensure fairness, transparency, and investor
protection, capital markets are subject to government oversight by regulatory
bodies like the Securities and Exchange Commission (SEC) in the Philippines.
 • Link Between Savers and Borrowers: The market acts as a bridge, bringing
together those with a surplus of funds (savers) and those in need of funds
(borrowers), such as corporations and governments.

Main Markets and Instruments

Capital markets are broadly categorized into two main segments: the primary market
and the secondary market.

Key Concepts
1. Primary Market and Secondary Market
Capital markets are divided into two main parts:
• Primary Market: This is where new financial assets are created and sold for the
very first time. Imagine a company wants to build a new factory. To raise the
money, they sell shares of ownership (stocks) to the public through an Initial
Public Offering (IPO). When you buy a stock in an IPO, you are buying it directly
from the company in the primary market. The money you pay goes straight to the
company to fund their project.

• Secondary Market: This is where investors trade financial assets that have
already been issued. Think of it like a second-hand store for stocks and bonds. For
example, the Philippine Stock Exchange (PSE) is a secondary market. When you
buy a stock on the PSE, you're not buying it from the company directly; you're
buying it from another investor who already owned it. The secondary market is
crucial because it gives investors a way to easily sell their investments and get
their money back, which makes them more willing to invest in the primary market
in the first place.

Key Financial Instruments: Stocks and Bonds

These are the two most common types of "IOUs" traded in the capital markets.
• Stocks (or Equities): When you buy a stock, you become a part-owner of the
company. You're called a shareholder. If the company does well, the value of
 your shares might increase, and you might receive a portion of the profits called a
dividend. Stocks are generally considered higher risk because their value can go
up and down a lot, but they also offer the potential for higher returns.
• Bonds (or Debt Securities): When you buy a bond, you are essentially lending
money to a company or a government. You're a lender, not an owner. In return,
the issuer promises to pay you regular interest payments and to pay back the
original amount of the loan (the principal) on a specific date in the future. Bonds
are typically considered a lower-risk investment than stocks.

Participants in the Market

The capital market is not just made up of stocks and bonds; it also includes the people
and organizations that make it all work.
• Issuers: These are the ones who need money. They are the companies and
governments that issue stocks and bonds to raise funds for their projects.
• Investors: These are the ones who have money to spare. They can be individual
people, or large organizations like banks, mutual funds, and pension funds.
• Intermediaries: These are the facilitators who connect the issuers and the
investors. They include:
o Investment Banks: They help companies issue new securities in the
primary market (e.g., managing an IPO).
o Stockbrokers: They help individual investors buy and sell securities in the
secondary market.
o Stock Exchanges: These are the organized marketplaces where the
trading of stocks and other securities happens. The Philippine Stock
Exchange is a great local example.

Why are Capital Markets Important?

Capital markets are vital for a healthy economy because they:
• Encourage Savings and Investment: They give people a way to make their idle
money grow.
 • Fuel Economic Growth: By channeling money to businesses and governments,
they support job creation, innovation, and large-scale projects.
• Provide Liquidity: The secondary market ensures that investors can easily sell
their assets and convert them back into cash if they need to.

I. STOCKS
• Think of the stock market as a huge auction or swap meet (some might call it a
flea market) where people buy and sell pieces of paper called stock. On one side,
you have the owners of corporations who are looking for a convenient way to raise
money so that they can hire more employees, build more factories or offices, and
upgrade their equipment. The way they raise money is by issuing shares of stock
in their corporation. On the other side, you have people like you and me who buy
shares of stock in these corporations. The place where we all meet, the buyers
and sellers, is the stock market.

• What is a share of stock?

o We’re not talking about livestock! Actually, the word stock originally did
come from the word livestock. Instead of trading cows and sheep, however,
we trade pieces of paper that represent ownership—shares— in a
corporation. You may also hear people refer to stocks as equities or
securities. Most people just call them stocks, which means supply. (After
all, the entire stock market is based on the economic theory of supply and
demand.)
o When you buy shares of stock in a corporation, you are commonly referred
to as an investor or a shareholder. When you own a share of stock, you are
sharing in the success of the business, and you actually become a part
owner of the corporation. When you buy a stock, you get one vote for each
share of stock you own. The more shares you own, therefore, the more of
the corporation you control. Most shareholders own a tiny sliver of the
corporation, with little control over how the corporation is run and no ability
 to boss anyone in the corporation around. You’d have to own millions of
shares of stock to become a primary owner of a corporation whose stock is
publicly traded.
o In summary, a corporation issues shares of stock so that it can attract
money. Investors are willing to buy stock in a corporation in order to receive
the opportunity to sell the stock at a higher price. If the corporation does
well, the stock you own will probably go up in price, and you’ll make money.
If the corporation does poorly, the stock you own will probably go down in
price, and you’ll lose money (if you sell, that is).

• Stock Certificates: Fancy-Looking Pieces of Paper

o Stock certificates are written proof that you have invested in the corporation.
(Some people don’t realize that you invest in companies, not stocks.)
Although some people ask for the stock certificates so that they can keep
them in a safe place, most people let a brokerage firm hold their stock
certificates. To be technical, there are actually two kinds of stocks, common
and preferred.
o Remember, not all companies issue stock. A company has to be what is
called a corporation, a legally defined term. Most of the large companies
you have heard of are corporations, and, yes, their stocks are all traded in
the stock market. I’m talking about corporations like Microsoft, IBM, Disney,
General Motors, General Electric, and McDonald’s.
o Common Stocks
▪ These are the most usual type of stocks people buy.
▪ Holders become part-owners of the company and can vote in
shareholder meetings.
▪ They may receive dividends (profit share), but these are not
guaranteed and depend on the company’s performance.
▪ Common stockholders are “last in line” if the company closes down—
meaning they only get paid after debts and preferred stockholders
are settled.
 ▪ They have the potential for higher returns because their value can
grow as the company grows.
o Preferred Stocks
▪ These are more like a mix of a stock and a bond.
▪ Holders usually don’t have voting rights.
▪ They receive fixed dividends, which are paid before common
stockholders get theirs.
▪ If the company closes, preferred stockholders get their money back
before common stockholders.
▪ They are safer than common stocks but usually give lower growth
potential.
o In short:
▪ Common stocks = ownership + voting + higher risk/higher reward.
▪ Preferred stocks = priority dividends + safer but limited growth, no
voting.

• You Buy Stocks for Only One Reason: To Make Money

o The stock market is all about making money. Quite simply, if you buy stock
in a corporation that is doing well and making profits, then the stock you
own should go up in price. (By the way, the profits you make from a stock
are called capital gains, which are the difference between what you paid for
a stock and what you sold it for. If you lose money, it is called a capital loss.)
o You make money in the stock market by buying a stock at one price and
selling it at a higher price. It’s that simple. There is no guarantee, of course,
that you’ll make money. Even the stocks of good corporations can
sometimes go down. If you buy stocks in corporations that do well, you
should be rewarded with a higher stock price. It doesn’t always work out
that way, but that is the risk you take when you participate in the market.
What is a Stock Exchange?

A stock exchange is simply an organized marketplace where buyers and sellers come
together to trade financial securities, primarily stocks. Think of it as a highly structured,
very fast-paced public market, but instead of buying goods, people are buying and selling
ownership stakes in companies.
The Philippine Stock Exchange (PSE), located in Bonifacio Global City, is our local
example. Globally, some of the most famous stock exchanges are the New York Stock
Exchange (NYSE) and the Nasdaq.
The primary purpose of a stock exchange is to provide a central, regulated, and
transparent place for trading.

Simple Analogy: A stock exchange is like a central public auction house for company
ownership.

How Does a Stock Exchange Work?

The process can be a little complex, but you can break it down into a few simple steps for
your students:
1. Listing: For a company to have its stock traded on an exchange, it must first get
"listed." This means the company has to meet strict requirements set by the
exchange and the government (like the Securities and Exchange Commission or
SEC) regarding its size, financial health, and transparency. This process ensures
that only legitimate companies are available for public investment.
2. Order Matching: When an investor wants to buy a stock, they place a "buy order"
through a stockbroker. When another investor wants to sell, they place a "sell
order." The stock exchange's job is to match these two orders.
o The highest price a buyer is willing to pay is the "bid price."
o The lowest price a seller is willing to accept is the "ask price."
o The stock exchange's electronic system (or a human broker on a physical
trading floor) matches a bid with an ask, and a transaction is completed.
The price at which this happens becomes the stock's current market price.
 3. Price Discovery: This process of matching buyers and sellers is how the market
determines the "fair" price of a stock in real-time. This is called price discovery. If
more people want to buy a stock than sell it, the price goes up. If more people want
to sell, the price goes down. The current price of a stock at any given moment
reflects all the known information about the company.

Key Roles of Stock Exchanges

Stock exchanges are much more than just a place to buy and sell. They play a vital role
in the economy.
1. Providing a Marketplace (Liquidity): The most important function of an
exchange is to provide liquidity. This means that if you own a stock and want to
sell it, there is a ready and willing market to buy it. This ease of selling and
converting your investment back into cash is what makes investing in stocks
attractive to people in the first place.
2. Raising Capital for Companies: As discussed before, the stock exchange is
where companies can go to raise large amounts of money. By listing their shares
and conducting an Initial Public Offering (IPO), a company can sell ownership to
a large number of investors. This is a crucial step for a company to grow, innovate,
and expand.
3. Economic Barometer: The overall performance of a country's stock market is
often seen as a key indicator of its economic health. When the stock market is
doing well, it usually suggests that investors are optimistic about the future of
companies and the economy. The Philippine Stock Exchange Index (PSEi) is a
common example—it measures the performance of the top 30 publicly traded
companies in the country and is often used to gauge the overall health of the
Philippine economy.
4. Regulation and Transparency: Stock exchanges enforce rules on listed
companies to ensure they are transparent with the public. Companies must
regularly release financial reports and disclose important information that could
affect their stock price. This helps protect investors from fraud and gives everyone
access to the same information.
Major Stock Exchanges
You can mention our local exchange and then a few major global ones to give them a
wider perspective.
• The Philippine Stock Exchange (PSE): Our national stock exchange, created
from the merger of the Manila and Makati stock exchanges. It's the central hub for
trading stocks in the Philippines.
o It is the only stock exchange in the country.
o The PSE was formed in 1992 after merging the Manila Stock Exchange
(MSE) and the Makati Stock Exchange (MkSE).
o Its main index is the PSEi (Philippine Stock Exchange Index), which tracks
the performance of the top 30 listed companies, like SM Investments, Ayala
Corporation, Jollibee Foods, BDO, Globe Telecom, and more.
o The PSE has two main offices: one in Bonifacio Global City (Taguig) and
another in Ortigas Center (Pasig).
o It plays a big role in helping companies raise money (through Initial Public
Offerings or IPOs) and giving investors a place to buy and sell shares.
o In short: The Philippine Stock Exchange (PSE) is the country’s official and
only stock exchange, serving as the heart of stock trading in the Philippines.

• The New York Stock Exchange (NYSE): The largest stock exchange in the world
by market capitalization. It's famous for its physical trading floor, though most
trading is now done electronically.
o Lists many big, traditional, and stable companies such as Coca-Cola, IBM,
Disney, JPMorgan Chase.
o Has a physical trading floor in Wall Street, New York.
o Considered more conservative and established.

• The Nasdaq: The world's first electronic stock exchange. It's known for listing
many of the world's largest technology companies, like Apple and Microsoft.
 o National Association of Securities Dealers Automated Quotation System
(NASDAQ)
o A fully electronic stock exchange, no physical trading floor.
o Famous for being home to many technology and growth companies,
such as Apple, Microsoft, Amazon, Google (Alphabet), Meta
(Facebook).
o Known for being more innovative and modern, but also more volatile
because tech stocks can rise and fall quickly..

• Some Major Stock Exchanges

o Tokyo Stock Exchange (TSE) – Japan

▪ The biggest in Asia.
▪ Home to companies like Toyota, Sony, and Honda.
o Shanghai Stock Exchange (SSE) – China
▪ One of the fastest-growing markets.
▪ Includes large state-owned companies and banks.
o Hong Kong Stock Exchange (HKEX) – Hong Kong
▪ Gateway for international investors to invest in China.
o London Stock Exchange (LSE) – United Kingdom