Global financial markets, also referred to as capital markets, are as the name suggests financial markets that enable the buying and selling of assets such as derivatives, stocks, bonds, commodities, and currencies.
If you are new to trading, it is advisable to build an understanding of the different types of global financial markets and the types of assets/securities that are traded on each market.
The Different Types of Global Financial Markets
1. Stock Markets
Stock markets are used by investors to trade shares of publicly held companies, equities, and other financial securities. These financial transactions are usually managed by stock exchanges, which are based all over the world.
To raise capital, companies may offer to sell shares of their company to investors via an initial public offering (IPO). Once the company has gone public in this way, there are investors and traders who will then buy and sell these shares. The aim for investors is to purchase the shares at a low cost in order to sell them on at a much higher price, thus generating a profit from the transactions.
The stock market allows organisations to benefit by allowing them to raise capital easily. Investors may well benefit from dividends (sometimes paid to shareholders to reward investors holding the company shares), or by selling their shares to other traders or interested parties at a profit.
2. Bond Markets
To raise large amounts of capital, organisations and governments are able to access the bond market. There are different types of bonds, that can be issued, bought, and sold to interested parties and act as a form of a loan. Common bonds include treasury bonds, municipal bonds, and corporate bonds.
Often governments or companies will issue bonds to fund long-term private and public expenditures. The traders/investors who buy the bonds often get an interest rate that is better than leaving the money in the bank, but the interest rate return would also usually be much lower than more risky investments, such as shares or foreign exchange trades. After the agreed length of time, the bond amount plus the agreed accrued interest amount must be repaid to the investor by the governments or organisations, who sold the bonds.
3. Commodities Markets
Commodities markets provide opportunities, for traders and investors to purchase and resell commodities such as natural gas, gold, silver, corn, etc.
As the price of some commodities can fluctuate unpredictably, there is a particular kind of market that specialises in this field: the commodities futures market. Here the current price and the future supply date of the commodities are agreed upon in advance and the goods provided at the agreed future date.
Some traders and investors choose to reduce the risk to their investment portfolio by trading specific commodities. Although commodity trades can be quite unpredictable in the near-term (due to the limited quantities being available and the potentially high demand), they also provide strong price consistency over longer periods, especially compared to shares and foreign exchange trades.
A good example of this is that the price of gold and silver tends to rise when there is an economic downturn or crisis. During these uncertain times, people move their capital away from riskier investments (such as shares and currency), into less risky assets, such as rare commodities, often referred to as safe heavens. The opposite tends to happen in more bullish economic times and the price of these rare metals often drops again.
Grasping Derivatives Markets
Derivatives are a curtal part of the financial markets and often used to reduce risk in relation to market fluctuations. They derive their value from other assets, hence the name ‘derivative’. They can be acquired via exchanges, but also over the counter (OTC, see definition below). Derivatives are a kind of contract (between two parties) that bases its value on a particular asset, often referred to as the underlying asset.
For instance, if a trader holds all their funds in GBP but then buys stocks in Euro, the traders stock earnings are at risk of being affected by fluctuations in the GBP/EURo exchange rate.
Should the price of GBP increase considerably in connection to Euro, the trader could see his earnings from the stocks drop substantially as soon as the trade gains have been exchanged back to GBP from the Euro stocks.
To reduce the risk of these currency fluctuation concerns relating to investments, people can buy derivatives that could gain in value if GBP rises in relation to Euro. The gains from this investment should counteract the losses from the invested stocks.
The main types of derivatives are: futures, options, forwards, and swaps.
Key Aspects of the Global Financial Markets
Global financial markets are essential in supporting the growth and competitiveness of economies around the globe.
- Safeguarding the liquidity of financial resources
A liquid resource or asset is either cash or something that can easily be converted into cash by selling it. Financial markets facilitate the liquidity of a financial resource, by connecting countless interested buyers and sellers. In effect this means anyone wanting to buy or sell a financial resource, can do this anytime they chose, as there is now always a financial marketplace to facilitate the sale/purchase.
- Making your savings work for you
Financial markets and successful economies actively encourage people to put their capital to good use, rather than storing their capital in a bank for prolonged periods of time. Successful economies will generally aim to have around 2% annual inflation, meaning that cash will become slightly less valuable each year. This encourages people with spare money to lend it to people/companies who wish to borrow it, adding the inflation interest rate or above. The financial markets and other financial organisations, such as banks or building societies find ways for their customers to benefit. They make it worthwhile for investors/savers to distribute their capital to potential borrowers, by providing the incentive in the form of a healthy interest repayment.
- Establishing the worth of an asset
Market pressures such as supply and demand usually define the worth of assets. This is due to the fact that in the end, an asset is only worth what people are prepared to spend on it. In this way, the financial markets have a key impact on setting the price of an asset, even if prices may change over time.
- Positive impact on employment
The labour market is positively affected by financial markets and not only by the jobs that are created for professional investors, bankers, traders, and brokers. In fact, the additional capital that is released into global economies due to assets becoming more liquid and due to the increased lending, it enables organisations to expand much more quickly, creating a lot of additional employment in the process.
- Raising funds
Another key aspect of financial markets is that raising capital becomes much easier. Governments all around the world frequently issue and sell bonds to generate cash quickly. Similarly, organisations can access cash quickly by issuing shares on the stock exchanges, to finance future growth.
The Foreign Exchange Industry Compared to the CFD Industry
The foreign exchange industry (also known as Forex or FX), enables the trading of different global currencies. There is a huge currency market where currencies fluctuate daily. In fact, the average daily trade of currency totalled over $6,600,000,000,000 ($6.6 trillion) in 2019.
In contrast, a CFD, which is short for ‘Contract for Difference’, presents brokers and traders with a unique agreement, that enables them to trade in the price changes of the most commonly traded assets. The contract states that the broker/trader will pay the price difference between the trader’s opening price and the closing price of the traded asset in question.
These CFD agreements enable traders to make extremely short-term trades on the price movements of traded assets and most frequently exercised with indices and commodities such as precious metals, and oil.
Common Traits of Forex Trading and CFD Trading
No actual transfer of material goods
Physical currencies are not actually exchanged on the Forex market, just like the physical commodity (oil for example) is not exchanged if traded via a CFD contract. Instead of taking physical delivery traders evaluate the currency exchange rate/assets value and based on their anticipated outcome, they will trade these in the hope to make gains from their trades. There is therefore never an exchange of material goods.
What is meant by over the counter (OTC) trade?
Over the counter usually means that the trade transaction is handled electronically via a financial organisation, a common example would be using a broker such as Squared Financial. The alternative to OTC would be to trade via a physical market or stock exchange, such as the London Stock exchange.
Identical trading programs
Forex and CDF’s use of identical trading programmes. An example of this would be the globally well-received and recognised MetaTrader 4. They usually have the same charge structure and comparable graphs and charts.
Identical change structure
Investors that are new to Forex and CFD’s trading might be used to charges or commission, yet when trading Forex or CFD’s there is usually just one charge structure: the spread. The spread shows you the variation between the broker’s selling price and the buying price of a currency or commodity trade.
Trades are completed similarly
Regardless of price fluctuations, investors are able to buy or sell at any time hassle-free, when trading CFDs or Forex.
How do CFDs and Forex Vary?
Forex, as the name suggests, refers to currency trade only.
However, CFD’s include commodities (e.g. metals, oil, energies, etc.), indices (e.g. S&P500, Dow Jones, FTSE) and securities (e.g. stocks, shares, bonds).
Other elements affecting trade
Foreign Exchange is often impacted by international developments, such as a significant transition in the political environment, employment numbers, and economic factors.
CFD’s are more likely to be impacted by variations within a distinct business category or supply/demand related issues concerning goods and materials.