Difference Between Money Market and Capital Market

Article byWallstreetmojo Team
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

Money Market vs Capital Market

The money market and the capital market are the two different types of financial markets wherein the money market is used for short-term borrowing and lending. In contrast, the capital market is used for long-term assets, i.e., assets which have a maturity of more than one year.

The money marketMoney MarketThe money market is a financial market wherein short-term assets and open-ended funds are traded between institutions and traders.read more and capital market are types of financial markets. Money markets are used for short-term lending or borrowing; usually, the assets are held for one year or less, whereas capital markets are used for long-term securities. They have a direct or indirect impact on the capital. Capital markets include the equity market and the debt market.

What is the Money Market?

Money markets are unorganized markets where banks, financial institutionsFinancial InstitutionsFinancial institutions refer to those organizations which provide business services and products related to financial or monetary transactions to their clients. Some of these are banks, NBFCs, investment companies, brokerage firms, insurance companies and trust corporations. read more, money dealers, and brokers trade in financial instruments quickly. For example, they trade in short-term debt instruments like trade credit, commercial paper, certificate of depositCertificate Of DepositA certificate of deposit (CD) is an investment instrument mostly issued by banks, requiring investors to lock in funds for a fixed term to earn high returns. CDs essentially require investors to set aside their savings and leave them untouched for a fixed period.read more, T bills, etc. They are highly liquid and can be redeemed in less than 1.

Trading in the money market is done mostly through over-the-counterOver The CounterOver the counter (OTC) is the process of stock trading for the companies that don't hold a place on formal exchange listings. The broker-dealer network facilitates such decentralized trading of derivatives, equity and debt instruments.read more (OTC), i.e., no or little use of exchanges. However, they provide businesses with short-term credit and play a major role in providing liquidity in the economy over the short term. In addition, it helps the business and industries with working capitalWorking CapitalWorking capital is the amount available to a company for day-to-day expenses. It's a measure of a company's liquidity, efficiency, and financial health, and it's calculated using a simple formula: "current assets (accounts receivables, cash, inventories of unfinished goods and raw materials) MINUS current liabilities (accounts payable, debt due in one year)"read more requirements.

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What is Capital Market?

The capital marketCapital MarketA capital market is a place where buyers and sellers interact and trade financial securities such as debentures, stocks, debt instruments, bonds, and derivative instruments such as futures, options, swaps, and exchange-traded funds (ETFs). There are two kinds of markets: primary markets and secondary markets.read more is a type of financial market where financial products like stocks, bonds, debentures are traded for a long time. They serve the purpose of long-term financingLong-term FinancingLong term financing means financing by loan or borrowing for a term of more than one year by way of issuing equity shares, by the form of debt financing, by long term loans, leases or bonds, done for usually extensive projects financing and expansion of the company.read more and long-term capital requirement. The capital market is a dealer and an auction marketAn Auction MarketAuction Market is a marketplace where the buyers and sellers trade stock by bidding. The price is calculated based on the highest amount a buyer is ready to pay and the lowest amount a seller is ready to accept. read more and consists of two categories:

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Video Explanation of Money Market and Capital Market

Money Market vs Capital Market Infographics

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Key Differences

Comparative Table

Basis for ComparisonMoney MarketCapital Market
DefinitionIt is the part of financial market where lending and borrowing takes place for short-term up to one yearCapital market is part of the financial market where lending and borrowing takes place for the medium-term and long-term
Types of instruments involvedMoney markets generally deal in promissory notesPromissory NotesA promissory note is defined as a debt instrument in which the issuer of the note promises to pay a specified amount to a party on a particular date.read morebills of exchangeBills Of ExchangeBills of exchange are negotiable instruments that contain an order to pay a certain amount to a particular person within a stipulated period of time. The bill of exchange is issued by the creditor to the debtor when the debtor owes money for goods or services.read more, commercial paper, T bills, call money, etc.Capital market deals in equity shares, debentures, bonds, preference sharesPreference SharesA preferred share is a share that enjoys priority in receiving dividends compared to common stock. The dividend rate can be fixed or floating depending upon the terms of the issue. Also, preferred stockholders generally do not enjoy voting rights. However, their claims are discharged before the shares of common stockholders at the time of liquidation.read more, etc.
Institutions involved/types of investorsThe money market contains financial banks, the central bank, commercial banks, financial companies, chit funds, etc.It involves stockbrokers, mutual funds, underwriters, individual investors, commercial banks, stock exchangesStock ExchangesStock exchange refers to a market that facilitates the buying and selling of listed securities such as public company stocks, exchange-traded funds, debt instruments, options, etc., as per the standard regulations and guidelines—for instance, NYSE and NASDAQ.read more, Insurance Companies
Nature of MarketMoney markets are informalCapital markets are more formal
Liquidity of the marketMoney markets are liquidCapital Markets are comparatively less liquid
Maturity periodThe maturity of financial instrumentsFinancial InstrumentsFinancial instruments are certain contracts or documents that act as financial assets such as debentures and bonds, receivables, cash deposits, bank balances, swaps, cap, futures, shares, bills of exchange, forwards, FRA or forward rate agreement, etc. to one organization and as a liability to another organization and are solely taken into use for trading purposes.read more is generally up to 1 yearThe maturity of capital markets instruments is longer and they do not have stipulated time frame
Risk factorSince the market is liquid and the maturity is less than one year, Risk involved is lowDue to less liquid nature and long maturity, the risk is comparatively high
PurposeThe market fulfills the short-term credit needs of the businessThe capital market fulfills the long-term credit needs of the business
Functional meritThe money markets increase the liquidity of funds in the economyThe capital market stabilizes the economy due to long-term savings
Return on investmentThe return in money markets are usually lowThe returns in capital markets are high because of higher duration

Conclusion

  • Both are part of the financial markets. The main aim of the financial markets is to channel funds and generate returns. The financial markets stabilize the money supply by lending borrowing mechanism, i.e., surplus funds are provided to borrowers by the lenders.
  • Both are required for the betterment of the economy as they fulfill the business and industry’s long-term and short-term capital needs. The markets encourage individuals to invest money to gain good returns.
  • Investors can tap into each of the markets depending on their needs. Capital markets are generally less liquid but provide good returns at higher risk, whereas money markets are highly liquid but provide lower returns. Money markets are also considered safe assets.
  • However, market anomalies and inefficiency due to some aberrations above may not hold. Due to such irregularities, investors look for arbitrage opportunities to get higher returns. Money markets are considered safe, but they sometimes give negative returns. Thus, investors should study the pros and cons of each financial instrument and the condition of the financial market before putting their money for the short term or long term.

This has been a guide to Money Market vs Capital Market. Here we discuss the top differences between the money market and the capital market with infographics and comparison table. You may also have a look at the following articles –

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