Money Market vs. Capital Market: What's the Difference?

Money Market vs. Capital Market: An Overview

A financial market brings buyers and sellers together to trade in financial assets such as
stocks, bonds, commodities, derivatives, and currencies. The purpose of a financial
market is to set prices for global trade, raise capital, and transfer liquidity and
risk. Although there are many components to a financial market, two of the most
commonly used are money markets and capital markets.

Government and corporate entities use money markets as a means for borrowing and
lending in the short term, usually for assets being held for up to a year.
Conversely, capital markets are more frequently used for long-term assets, which are
those with maturities of greater than one year.

Capital markets include the equity (stock) market and debt (bond) market.
Together, money markets and capital markets comprise a large portion of the financial
market and are often used together to manage liquidity and risks for companies,
governments, and individuals. 

Financial Markets: Capital vs. Money Markets

Money Market
The money market is often accessed alongside the capital markets. While investors are
willing to take on more risk and have the patience to invest in capital markets, money
markets are a good place to "park" funds that are needed in a shorter period, usually
one year or less. The financial instruments used in capital markets include stocks and
bonds, but the instruments used in the money markets include deposits, collateral
loans, acceptances, and bills of exchange. Institutions operating in money markets are
central banks, commercial banks, and acceptance houses, among others.

Money markets provide a variety of functions for individual, corporate, or government

entities. Liquidity is often the main purpose for accessing money markets. When short-
term debt is issued, it's often to cover operating expenses or working capital for a
company or government and not for capital improvements or large-scale
projects. Companies may want to invest funds overnight and look to the money market
to accomplish this, or they may need to cover payroll and look to the money market to
help.

The money market plays a key role in assuring companies and governments maintain
the appropriate level of liquidity on a daily basis, without falling short and needing a
more expensive loan or without holding excess funds and missing the opportunity of
gaining interest on funds.

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Investors, on the other hand, use money markets to invest funds in a safe manner.
Unlike capital markets, money markets are considered low risk; risk-averse investors are
willing to access them with the anticipation that liquidity is readily available. Those
individuals living on a fixed income often use money markets because of the safety
associated with these types of investments.

 
Together, money markets and capital markets are used to manage liquidity and risks for
companies, governments, and individuals.

Capital Markets
Capital markets are perhaps the most widely followed markets. Both the stock and bond
markets are closely followed, and their daily movements are analyzed as proxies for the
general economic condition of the world markets. As a result, the institutions operating
in capital markets—stock exchanges, commercial banks, and all types of corporations,
including non-bank institutions such as insurance companies and mortgage banks—are
carefully scrutinized.

The institutions operating in the capital markets access them to raise capital for long-
term purposes, such as for a merger or acquisition, to expand a line of business or enter
into a new business, or for other capital projects. Entities that are raising money for
these long-term purposes come to one or more capital markets. In the bond market,
companies may issue debt in the form of corporate bonds, while both local and
federal governments may issue debt in the form of government bonds.

Similarly, companies may decide to raise money by issuing equity on the stock market.
Government entities are typically not publicly held and, therefore, do not usually issue
equity. Companies and government entities that issue equity or debt are considered the
sellers in these markets.

The buyers (or the investors) buy the stocks or bonds of the sellers and trade them. If
the seller (or issuer) is placing the securities on the market for the first time, then the
market is known as the primary market.

Conversely, if the securities have already been issued and are now being traded among
buyers, this is done on the secondary market. Sellers make money off the sale in the
primary market, not in the secondary market, although they do have a stake in the
outcome (pricing) of their securities in the secondary market.

The buyers of securities in the capital market tend to use funds that are targeted for
longer-term investment. Capital markets are risky markets and are not usually used to
invest short-term funds. Many investors access the capital markets to save for
retirement or education, as long as the investors have lengthy time horizons.

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The Bottom Line

There are both differences and similarities between capital and money markets. From
the issuer or seller's standpoint, both markets provide a necessary business function:
maintaining adequate levels of funding. The goal for which sellers access each market
varies depending on their liquidity needs and time horizon.

Similarly, investors or buyers have unique reasons for going to each market: capital
markets offer higher-risk investments, while money markets offer safer assets; money
market returns are often low but steady, while capital markets offer higher returns. The
magnitude of capital market returns often has a direct correlation to the level of risk,
but that's not always the case.

Although markets are deemed efficient in the long run, short-term inefficiencies allow
investors to capitalize on anomalies and reap higher rewards that may be out of
proportion to the level of risk. Those anomalies are exactly what investors in capital
markets try to uncover. Although money markets are considered safe, they have
occasionally experienced negative returns. Inadvertent risk, although unusual, highlights
the risks inherent in investing—whether putting money to work for the short-term or
long-term in money markets or capital markets.

KEY TAKEAWAYS

 A financial market brings buyers and sellers together to trade in financial assets.
 Money markets are used by government and corporate entities to borrow and
lend in the short term.
 Capital markets are used for long-term assets, which are those with maturities of
greater than one year.

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Money Market

What Is the Money Market?

The money market is the trade in short-term debt investments. At the wholesale level, it
involves large-volume trades between institutions and traders. At the retail level, it
includes money market mutual funds bought by individual investors and money market
accounts opened by bank customers.

In any case, the money market is characterized by a high degree of safety and a
relatively low return in interest.

KEY TAKEAWAYS

 The wholesale money market involves the purchase and sale in large volumes of
short-term debt products.
 An individual may invest in the money market by purchasing a money market
mutual fund, buying a Treasury bill, or opening a money market account at a
bank.
 Money market investments are characterized by safety and liquidity.

Money Market

Understanding the Money Market

On the widest scale, the money market is one of the pillars of the global financial system
and involves overnight swaps of vast amounts of money between banks and the U.S.
government. An individual may invest in the money market by buying money market
funds, short-term certificates of deposit (CDs), municipal notes, or U.S. Treasury bills,
among other examples.

Traders and institutions are more commonly the buyers for other money market
products such as eurodollar deposits, banker's acceptances, commercial paper, federal
funds, and repurchase agreements. In all cases, they are low-risk investments that have
maturities ranging from overnight to just under one year. That short life makes them
almost as liquid as cash. That is, the principal is safe and the money is not inaccessible
for long.

The money market also has retail locations. Your local bank is one retail location, and
the U.S. government's TreasuryDirect website is another. Your broker is yet another
source. However, most money market transactions are wholesale, meaning they are for
large denominations and take place between financial institutions and companies rather
than individuals.

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The money market is defined as dealing in debt of less than one year. The borrowers
keep their cash flows steady, and the lenders make a modest profit.

Money Market Participants

Institutions that participate in the money market include banks that lend to one another
and to large companies in the eurocurrency and time deposit markets; companies that
raise money by selling commercial paper into the market, which can be bought by other
companies or funds; and investors who purchase bank CDs as a safe place to park
money in the short term. Some of those wholesale transactions eventually make their
way into the hands of consumers as components of money market mutual funds and
other investments.

The U.S. government issues Treasury bills in the money market, with maturities that
range from a few days to one year. Primary dealers buy them in large amounts directly
from the government to trade between themselves or to sell to individual investors.
Individual investors can buy them directly from the government through its
TreasuryDirect website or through a bank or a broker. State, county, and municipal
governments also issue short-term notes.

In the wholesale market, commercial paper is a popular borrowing mechanism because

the interest rates are higher than for bank time deposits or Treasury bills, and a greater
range of maturities is available, from overnight to 270 days. However, the risk of default
is significantly higher for commercial paper than for bank or government instruments.

Types of Money Market Instruments

Money Market Funds

The wholesale money market is limited to companies and financial institutions that lend
and borrow in amounts ranging from $5 million to well over $1 billion per
transaction. Mutual funds offer baskets of these products to individual investors.
The net asset value (NAV) of such funds is intended to stay at $1. During the 2008
financial crisis, one fund fell below that level. That triggered market panic and a mass
exodus from the funds, which ultimately led to additional restrictions on their access to
riskier investments.

Money Market Accounts 

Money market accounts are a type of savings account. They pay interest, but some
issuers offer account holders limited rights to occasionally withdraw money or write
checks against the account. (Withdrawals are limited by federal regulations. If they are
exceeded, the bank promptly converts it to a checking account.) Banks typically

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calculate interest on a money market account on a daily basis and make a monthly
credit to the account.

In general, money market accounts offer slightly higher interest rates than standard
savings accounts. But the difference in rates between savings and money market
accounts has narrowed considerably since the 2008 financial crisis. Average interest
rates for money market accounts vary based on the amount deposited. As of mid-2019,
the best-paying money market account with no minimum deposit offered 2.25%
annualized interest. The best with a minimum deposit of $10,000 paid $2.45%.

 
Funds in money market accounts are insured by the Federal Deposit Insurance
Corporation (FDIC) at banks and the National Credit Union Administration (NCUA) in
credit unions. 

Certificates of Deposit

Most certificates of deposit (CDs) are not strictly money market funds because they are
sold with terms of up to 10 years. However, CDs with terms as short as three months to
six months are available.

As with money market accounts, bigger deposits and longer terms yield better interest
rates. Rates in mid-2019 for six-month CDs ranged from about 0.02% to 0.65%
depending on the size of the deposit. Unlike a money market account, the rates offered
with a CD remain constant for the deposit period. There is a penalty associated with
early withdrawal of funds deposited in a CD.

Commercial Paper

This is where we get into the professional market for institutions and traders who deal
in large-volume transactions. The commercial paper market is for buying and selling
unsecured loans for corporations in need of a short-term cash infusion. Only highly
creditworthy companies participate, so the risks are low.

Banker's Acceptances

Another professional money market trade, the banker's acceptance is a short-term loan

that is guaranteed by a bank. Used extensively in foreign trade, a banker's acceptance is
like a post-dated check and serves as a guarantee that an exporter can pay for the
goods. There is a secondary market for buying and selling banker's acceptances at a
discount.

Eurodollars

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These are not to be confused with the euro currency. Eurodollars are dollar-
denominated deposits held in foreign banks and thus not subject to Federal Reserve
regulations. Very large deposits of eurodollars are held in banks in the Cayman Islands
and the Bahamas. Money market funds, foreign banks, and large corporations invest in
them because they pay a slightly higher interest rate than U.S. government debt.

Repos
The repo, or repurchase agreement, is part of the overnight lending money market.
Treasury bills or other government securities are sold to another party with an
agreement to repurchase them at a set price on a set date.

Capital Markets

KEY TAKEAWAYS

 Capital markets refer to the places where savings and investments are moved
between suppliers of capital and those who are in need of capital.
 Capital markets consist of the primary market, where new securities are issued
and sold, and the secondary market, where already-issued securities are traded
between investors.
 The most common capital markets are the stock market and the bond market.

Understanding Capital Markets

The term capital market broadly defines the place where various entities trade different
financial instruments. These venues may include the stock market, the bond market,
and the currency and foreign exchange markets. Most markets are concentrated in
major financial centres including New York, London, Singapore, and Hong Kong.

Capital markets are composed of the suppliers and users of funds. Suppliers include
households and the institutions serving those— pension funds, life insurance
companies, charitable foundations, and non-financial companies—that generate cash
beyond their needs for investment. Users of funds include home and motor vehicle
purchasers, non-financial companies, and governments financing infrastructure
investment and operating expenses. 

Capital markets are used to sell financial products such as equities and debt securities.
Equities are stocks, which are ownership shares in a company. Debt securities, such as
bonds, are interest-bearing IOUs.

These markets are divided into two different categories: primary markets—where new
equity stock and bond issues are sold to investors—and secondary markets, which trade

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existing securities. Capital markets are a crucial part of a functioning modern economy
because they move money from the people who have it to those who need it for
productive use.

Primary versus Secondary Capital Markets

Capital markets are composed of primary and secondary markets. The majority of
modern primary and secondary markets are computer-based electronic platforms.

Primary markets are open to specific investors who buy securities directly from the
issuing company. These securities are considered primary offerings or initial public
offerings (IPOs). When a company goes public, it sells its stocks and bonds to large-scale
and institutional investors such as hedge funds and mutual funds.

The secondary market, on the other hand, includes venues overseen by a regulatory
body like the Securities and Exchange Commission (SEC) where existing or already-
issued securities are traded between investors. Issuing companies do not have a part in
the secondary market. The New York Stock Exchange (NYSE) and Nasdaq are examples
of the secondary market.

The secondary market serves an important purpose in capital markets because it creates
liquidity, giving investors the confidence to purchase securities.

Capital Markets Expanded

Capital markets can refer to markets in a broad sense for any financial asset.

Corporate Finance
In this realm, the capital market is where investable capital for non-financial companies
is available. Investable capital includes the external funds included in a weighted
average cost of capital calculation—common and preferred equity, public bonds, and
private debt—that are also used in a return on invested capital calculation. Capital
markets in corporate finance may also refer to equity funding, excluding debt.

Financial Services
Financial companies involved in private rather than public markets are part of the
capital market. They include investment banks, private equity, and venture capital firms
in contrast to broker-dealers and public exchanges.

Public Markets

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Operated by a regulated exchange, capital markets can refer to equity markets in
contrast to debt, bond, fixed income, money, derivatives, and commodities markets.
Mirroring the corporate finance context, capital markets can also mean equity as well as
debt, bond, or fixed income markets.

Capital markets may also refer to investments that receive capital gains tax treatment.
While short-term gains—assets held under a year—are taxed as income according to a
tax bracket, there are different rates for long-term gains. These rates are often related
to transactions arranged privately through investment banks or private funds such as
private equity or venture capital.

Money Market and Capital Market

The term, financial markets, is a loosely coined term to depict the broader market
where exchange of financial securities take place. It brings both borrowers and lenders
to transact.

The financial markets are merely a vehicle that bridges the gap between supply and
demand. This enables a healthy circulation of excess funds from one entity to another.

The financial markets, in enabling the transactions helps in the development of an

economy. A healthy financial market environment is crucial to the health of the
economy.

Lenders who have excess capital make use of the financial markets in order to lend
money and earn additional income. Borrowers on the other hand, use the financial
markets in order to borrow money to meet their capital requirements and to allow
them to undertake corporate actions.

The financial markets are mainly divided into the money markets and the capital
markets. Pick up any type of a financial instrument and chances are that it can be
categorized into one of the two main categories of the financial markets.

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 Types of Financial Markets

WHAT ARE MONEY MARKETS

The money markets are an unorganized aspect of the financial markets which includes
banking and financial institutions besides other entities such as dealers and brokers.
Trading in the money markets are short term and another word used for the money
markets is the wholesale markets.

Some of the most common financial instruments traded in the money markets include
credit trade, commercial paper, certificate of deposits and treasury bills to name a few.
What is common to such type of financial instruments is that they are short term in
nature.

The redemption period is limited to no longer than one year. Due to the short duration
of these instruments, the returns are not as high compared to other markets. Because
of the low rate of return, the money market financial instruments are considered to be
relatively safe when compared to their other counterparts.

An important aspect to know about the money markets is that it is an unsystematic

market. In other words, trading is mostly done over the counter as the two
counterparties agree to the terms. The trade's economic details are mostly confirmed

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 over the phone or by fax. The money markets play a crucial role in the circulation of the
short-term funds in the economy. This enables the participating institutions to meet
their working capital requirements.

TYPES OF MONEY MARKET INSTRUMENTS

Money markets are used by a wide range of market participants. It could include
companies that want to raise money by selling commercial paper to investors who want
to use the certificate of deposits as an instrument to park their money in the short term.

Typically, the money markets are considered to be safer than the other types. This is
due to the short-term nature of these instruments as discussed in the previous sector.
There isn't much that an investor can earn by investing in the money markets. This is
because the money markets are very conservative. As a result, the return one gets is
also lower compared to other more widely known securities.

This is also one of the reasons why the capital market financial instruments are more
popular compared to the money market instruments.

Below is a list of the different types of money market instruments:

 Certificate of deposits - As the name suggests, a certificate of deposit or CD for

short is a certificate that is issued by a bank to an investor who deposits money for a
specific period of time and at a specific interest rate. The certificate of deposit of course
is just a term and now a days, you don't actually receive a certificate but rather a digital
acknowledgement of the same. Certificate of deposits goes by other names such as
fixed deposit in some countries.
 Commercial paper - Commercial paper is a short-term promissory note that is
issued by companies. The commercial paper is also known as an unsecured short-term
debt instrument issued by corporations. The commercial paper is typically used for
financing of short-term operations such as inventories, payroll processing and accounts
payable. Typically, commercial paper maturities are no longer than 270 days or three
quarters of a year.
 Fed funds – The Federal funds are known as short term lending between banks.
Of course, the federal funds are not directly available to the average investor. The
federal funds or fed funds for short are usually by banks to cover their short-term
liabilities or to maintain the bank reserves.
 Repos – The repos are short for repurchase agreements. A repo is a short-term
agreement for dealers in government securities. With a repo agreement, the dealer

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 surrenders their securities to investors usually on a short-term basis such as overnight
and buys back the securities the next day. For the counterparty that is agreeing to the
repo agreement, it is called a reverse repurchase agreement or a reverse repo. In most
cases the collateral used are U.S. Treasury bonds.
 Treasury bills – These are short term bonds issued by a government. They
typically do not yield any interest, but they are issued at a discount when it is redeemed.
These are debt obligations and are backed the full trust and faith of the U.S. Treasury
department. Known as T-Bills for short, these have a maturity of less than a year and are
sold in denominations of $1000.

WHAT ARE CAPITAL MARKETS

Capital markets are another segment of the financial markets where in major financial
instruments such as government and corporate securities are traded. The purpose of
the capital markets, as the name defines is to raise the long-term financing needs for
the institutions to meet their capital requirements.

Some of the most popular securities traded in the capital markets include stocks, bonds,
and debentures, to name a few. What is common to these types of financial markets is
that they have a long-term maturity beyond a year. On some securities, there is no
maturity, for example stocks.

The capital markets play a major role in the circulation of capital in the economy. It
plugs the need between lenders and borrowers also known as suppliers and the users.

The capital markets are closely regulated. In the United States, the capital markets fall
under the supervision of the Securities and Exchange Commission (SEC) and abroad,
there are similar financial regulators for the capital markets.

The capital market combines the dealers and the auction markets. A sub-classification of
the capital markets can be categorized into the primary and the secondary markets.

 Primary markets - These are the markets are securities are issued for the first
time. Investors need to subscribe to these securities. Common examples include a
government issuing a new 5-year or a 10-year bond, or a company going public by
means of an initial public offering or an IPO.
 Secondary markets - The secondary markets are where the initially issued
securities are traded. These are traded primarily among investors and considered to be
more liquid than the primary markets. It is usually the subscribers of the primary

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 markets who become a major part of the secondary market to buy and sell the
securities they obtained through the primary market.

TYPES OF CAPITAL MARKET INSTRUMENTS

As the name suggests, the capital market instruments are primarily used to raise capital.
The type of capital raised can be either equity or debt. Therefore, when one talks about
capital markets, it could be either stocks or bonds.

The capital market instruments usually have a longer-term maturity. As a result, they
are riskier, but at the same time, such instruments can also give good returns.

Institutions use the capital markets for longer term financial obligations. There are
inherent risks because of this. For one, the longer the horizon that you lend your money,
the greater the uncertainty about the institution going bust. Still, capital markets are
very popular due to the high reward or returns that they give.

The capital markets are also much more liquid compared to the money markets.

Let’s take a look at some of the most popular capital market financial instruments.

 Stocks – As the name suggests, stocks are issued by corporations in order to

meet their long-term financing needs. The financing needs can vary, from acquisitions to
expanding their horizons. Typically, the operations are long term and as a result, stocks
allow the investor to own a share in the company. Stocks can be primarily categorized
into the equity markets and are usually preferred stocks, known as Class A shares or
general stock, known as Class B shares.

 Bonds – Bonds are used when an institution or a corporation wants to raise

money as a debt or liability. The bonds issued are always longer than one year. The
general standard tenure or duration of a bond is five years. You can of course have
longer date bonds. Bonds can be issued by governments and corporations alike. The
yield you can get on a bond can vary based on several factors ranging from the financial
health of the institution or the company to inflation and so on.

 Derivatives – The derivative financial instruments are basically derived from the
stock or bond markets. The derivative instruments as the name suggests derives their
value from the underlying instruments which are either equity or debt. Within the
derivative markets, there are many more financial instruments that one could use. For

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example, options are mostly used for stocks, while for bonds, you have credit derivative
instruments such as credit default swaps. The derivatives are mostly used to hedge the
exposure from the underlying markets.

WHAT ARE THE DIFFERENCES BETWEEN MONEY MARKET AND CAPITAL MARKET?

Money markets Capital markets

Short term instruments used to Long term instruments used to finance

finance short term operations long term operations

These instruments are more These instruments have a longer life

conservative and have a shorter life span. Due to the nature of the
span. As a result, the returns are less instruments and the duration, the
and the risk is also less. risks and rewards are equally high

Capital markets are very liquid due to

the fact that they are long term. As a
result, investor perception might
Money markets are less liquid as
change leading one to buy and sell
they are primarily used by financial
during the lifespan or duration of the
institutions and corporations
instrument in question. This attracts
more buyers and sellers into the
markets

Not easily accessible to the general Easily accessible especially in the

public with the exception of secondary market. Due to the high
commercial paper and certificate of amount of liquidity, transactions are

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 deposits. larger and higher in volume.

The major institutions that operate The major institutions that operate in
in the money markets are central the capital markets are stock
banks, large commercial banks and exchanges, brokers and dealers,
corporations commercial and institutional banks

CONCLUSION – CAPITAL MARKETS OR MONEY MARKETS?

By now you might be wondering which of these two types of markets are more
important. Some might even wonder which of these two markets are better for
investing.

The answer is that both the capital and money markets are important. This is because
each of these two types of markets suit a significant aspect of the financial markets. The
health of both these two markets are essential for an economy to perform well.

During a healthy economy, there is more credit that goes around. This allows
institutions to choose between money markets or capital markets. The money markets
are mostly tailored to meet the short term borrowing of the financial institutions
involved. Therefore, the scope of such markets are limited. At the same time, they are
safer but conservative.

Conversely, the capital markets which are more popular, are highly liquid and is
essential to the long term performance of the economy. For investors, you can choose
the financial instruments between these two types to meet your investing goals.

References

https://www.investopedia.com/articles/investing/052313/financial-markets-capital-vs-money-
markets.asp

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https://www.investopedia.com/terms/c/capitalmarkets.asp

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