Financial institution:

A financial institution (FI) is a company engaged in the business of dealing with financial and monetary
transactions, such as deposits, loans, investments, and currency exchange.

Major Financial Institutions:

In today's financial services marketplace, a financial institution exists to provide a wide variety of
deposit, lending, and investment products to individuals, businesses, or both. While some financial
institutions focus on providing services and account for the general public, others are more likely to
serve only certain consumers with more specialized offerings.

The major categories of financial institutions include central banks, retail and commercial banks, credit
unions, savings and loans associations, Insurance companies, Pension Funds, Mutual funds, investment
banks, investment companies, brokerage firms, insurance companies, and mortgage companies.

Central Bank

A central bank is a national bank that provides financial and banking services for its country's
government and commercial banking system and implements the government's monetary policy and
issuing currency.

Commercial Bank

A financial institution that provides services, such as accepting deposits, giving business loans and auto
loans, mortgage lending, and basic investment products like savings accounts and certificates of deposit.
The traditional commercial bank is a brick-and-mortar institution with tellers, safe deposit boxes, vaults,
and ATMs. However, some commercial banks do not have physical branches and require consumers to
complete all transactions by phone or Internet. They generally pay higher interest rates on investments
and deposits and charge lower fees in exchange.

Savings and Loan Associations

Financial institutions that are mutually held and provide no more than 20% of total lending to businesses
fall under savings and loan associations. Individual consumers use savings and loan associations for
deposit accounts, personal loans, and mortgage lending.

Credit Unions

The credit union is a non-profit-making money cooperative whose members can borrow from pooled
deposits at low-interest rates. Credit unions serve a specific demographic per their field of membership,
such as teachers or military members. While products resemble retail bank offerings, credit unions are
owned by their members and operate for their benefit.

Insurance companies

A business that provides coverage in the form of compensation resulting from loss, damages, injury,
treatment, or hardship in exchange for premium payments. The company calculates the risk of
occurrence then determines the cost to replace 5 pay for the loss to determine the premium amount.

1
 Protection against the loss of income that would result if the insured passed away. The named
beneficiary receives the proceeds and is thereby safeguarded from the financial impact of the insured’s
death.

Pension Fund

Fund established by an employer to facilitate and organize the investment of employees’ retirement
funds contributed by the employer and employees. The pension fund is a common asset pool meant to
generate stable growth over the long term and provide pensions for employees when they reach the
end of their working years and commence retirement.

Mutual Fund

A mutual fund is an investment vehicle made up of a pool of money collected from investors to invest in
securities such as stocks, bonds, money market instruments, and other assets. Mutual funds are
operated by professional money managers, who allocate the fund's investments and attempt to produce
capital gains and income for the fund's investors. A mutual fund's portfolio is structured and maintained
to match the investment objectives stated in its prospectus.

An Overview on Financial Market

A financial market is a broad term describing any marketplace where buyers and sellers participate in
trading assets such as equities, bonds, currencies, and derivatives. Financial markets are typically
defined by having transparent pricing, basic regulations on trading, costs and fees, and market forces
determining the prices of securities that trade.

Investors have access to many financial markets and exchanges representing a vast array of financial
products. Some of these markets have always been open to private investors; others remained the
exclusive domain of major international banks and financial professionals until the very end of the
twentieth century.

1. Capital Markets

A capital market is one in which individuals and institutions trade financial securities. Organizations and
institutions in public and private sectors also often sell securities on the capital markets to raise funds.
Thus, this type of market is composed of both primary and secondary markets.

Any government or corporation requires capital (funds) to finance its operations and engage in long-
term investments. To do this, a company raises money by selling securities – stocks and bonds in the
company's name. These are bought and sold in the capital markets.

a) Stock Markets

Stock markets allow investors to buy and sell shares in publicly traded companies. They are one of the
most vital areas of a market economy. They provide companies with access to capital and investors with
a slice of ownership in the company and the potential of gains based on its future performance.

This market can be split into two main sections: the primary and secondary markets. The primary market
is where new issues are first offered, with any subsequent trading in the secondary market.

2
b) Bond Markets

A bond is a debt investment in which an investor loans money to an entity (corporate or governmental),
which borrows the funds for a defined period at a fixed interest rate. Bonds are used by companies,
municipalities, states, and governments to finance various projects and activities. Bonds can be bought
and sold by investors on credit markets worldwide. This market is alternatively referred to as the debt,
credit, or fixed-income market. It is much larger in nominal terms than the world's stock markets. The
main categories of bonds are corporate bonds, municipal bonds, and Treasury bonds, notes, and bills.

2. Money Market

The money market is a financial market segment in which financial instruments with high liquidity and
very short maturities are traded. The money market is used by participants to borrow and lend in the
short term, from several days to just under a year. Money market securities consist of negotiable
certificates of deposit (CDs), banker's acceptances, U.S. Treasury bills, commercial paper, municipal
notes, eurodollars, federal funds, and repurchase agreements (repos). Money market investments are
also called cash investments because of their short maturities.

The money market is used by a wide array of participants, from a company raising money by selling
commercial paper into the market to an investor purchasing CDs as a safe place to park money in the
short term. The money market is typically seen as a safe place to put money due to the highly liquid
nature of the securities and short maturities. Because they are extremely conservative, money market
securities offer significantly lower returns than most other securities. However, there are risks in the
money market that any investor needs to be aware of, including the risk of default on securities such as
commercial paper.

3. Cash or Spot Market

Investing in the cash or "spot" market is highly sophisticated, with opportunities for both big losses and
big gains. In the cash market, goods are sold for cash and are delivered immediately. Contracts bought
and sold on the spot market are immediately effective. Prices are settled in cash "on the spot" at current
market prices. This is notably different from other markets, in which trades are determined at forward
prices.

The cash market is complex and delicate and generally not suitable for inexperienced traders. The cash
markets tend to be dominated by institutional players such as hedge funds, limited partnerships, and
corporate investors. The very nature of the products traded requires access to far-reaching, detailed
information and a high level of macroeconomic analysis and trading skills.

4. Derivatives Markets

The derivative is named so for a reason: its value is derived from its underlying asset or assets. A
derivative is a contract, but in this case, the contract price is determined by the market price of the core
asset. If that sounds complicated, it's because it is. The derivatives market adds another layer of
complexity and is not ideal for inexperienced traders looking to speculate. However, it can be used quite
effectively as part of a risk management program.

Examples of common derivatives are forwards, futures, options, swaps, and contracts-for-difference
(CFDs). Not only are these instruments complex, but so too are the strategies deployed by this market's

3
participants. There are also many derivatives, structured products, and collateralized obligations
available, mainly in the over-the-counter (non-exchange) market that professional investors,
institutions, and hedge fund managers use to varying degrees but play an insignificant role in private
investing.

a) Futures

Futures are exchange-organized contracts that determine the size, delivery time, and price. Futures can
easily be traded because they are standardized by an exchange. Per commodity traded, there are
different aspects specified in a futures contract. First of all, is the quality of a commodity. For a
commodity to be traded on the exchange, it must meet the set requirements. The second is the size of a
single contract. The size determines the units of a commodity that is traded per contract. Thirdly is the
delivery date, which determines on which date or in which month the commodity must be delivered.
Thanks to the standardization of futures, commodities can easily be traded and give manufacturers
access to large amounts of raw materials. They can buy their materials on the exchange and don’t need
to worry about the producer or take on contracts with multiple suppliers.

b) Forwards

Forwards and futures are very similar as they are contracts that give access to a commodity at a
determined price and time somewhere in the future. A forward distinguishes itself from a future in that
it is traded between two parties directly without using an exchange. The absence of the exchange
results in negotiable terms on delivery, size, and contract price. Contrary to futures, forwards are usually
executed on maturity because they are mostly used as insurance against adverse price movement and
the actual delivery of the commodity. Whereas futures are widely employed by speculators who hope to
profit by selling the contracts at a higher price, futures are closed before maturity.

c) Swaps

A swap is an agreement between two parties to exchange cash flows on a determined date or, in many
cases, multiple dates. Typically, one party agrees to pay a fixed rate while the other party pays a floating
rate. For example, when trading commodities, the first party, an airline company relying on kerosene,
agrees to pay a fixed price for a pre-determined quantity of this commodity. The other party, a bank,
agrees to pay the spot price for the commodity. At this moment, the airline company is insured of a
price it will pay for its commodity. In this case, a rise in the price of the commodity is paid by the bank.
Should the price fall, the difference will be paid to the bank.

d) Caps, floors, and collars

Cap and floor options can be used as insurance against negative price movements. When two parties
agree on a swap contract, both parties take a risk on the price movement of the underlying commodity.
To reduce this risk they can also agree on a cap or floor option. This is similar to a swap because two
parties agree to exchange cash flows. The difference is the usage of a maximum or minimum price. With
a cap option, a cash flow will only occur when the spot price rises above the cap price. When the price
remains under the cap price, a company will buy the commodity for the spot price. When the spot price
rises above the cap price, the other party will pay the difference between the spot and cap price.

4
A floor option works similarly to a cap option because the exchange of cash flows only occurs when a
condition is met. The only difference is that a cash flow only takes place when the spot price drops
below the floor price.

A collar option is a combination of both a cap and floor option. It sets a maximum and a minimum price.
The commodity will be bought for the current market price when the spot price remains between these
two prices. Should the spot price rise or drop outside these boundaries, an exchange of cash flows will
occur.

e) Options

Options are a form of derivatives, which gives holders the right but not the obligation to buy or sell an
underlying asset at a pre-determined price somewhere in the future. When you choose to buy an asset,
it is called a ‘call,’ and when you obtain the right to sell an asset, it is called a ‘put.’ To determine
whether it is profitable to exercise an option, the current market price (spot price) and the price in the
option (strike price) need to be compared. By comparing both prices, a choice can be made to either
exercise the option or let it expire. There are three positions on which the holder can find themselves
when exercising an option. The first is in the money (ITM), where the strike price is more favorable than
the spot price, and thus it will be advantageous to exercise the option. The second is at the money
(ATM), in which the strike and spot price are equal so that no advantage can be gained. The third is out
the money (OTM), where the strike price is higher than the spot price. In this case, it is better to let the
option expire and buy the commodity at the current market price. There are two ways of settling an
option between two parties. The first way is to deliver the underlying commodity physically. The other
way is to cash settle the option. In this way, the difference between the spot and strike price is paid to
the option holder upon exercising the option. An option has a few advantages over other derivatives.
The most important advantage is that an option is not binding because it does not obligate one to buy a
commodity. It gives you the right to buy it, and so when the price of the option is higher than the
current market price, you can just let the option expire and buy at the spot price. The only loss made will
be the premium which is the cost for maintaining the option. Another advantage is the usefulness of
options as a hedging tool. Options offer the tools to successfully hedge price movements with small
investment risks.

5. Forex and the Interbank Market

The interbank market is the financial system and trading of currencies among banks and financial
institutions, excluding retail investors and smaller trading parties. While banks perform some interbank
trading on behalf of large customers, most interbank trading occurs from the banks' accounts.

The forex market is where currencies are traded. The forex market is the largest, most liquid market
globally, with an average traded value that exceeds $1.9 trillion per day and includes all of the
currencies in the world. The forex is the largest market in the world in terms of the total cash value
traded, and any person, firm, or country may participate in this market.

There is no central marketplace for currency exchange; trade is conducted over the counter. The forex
market is open 24 hours a day, five days a week, and currencies are traded worldwide among the major
financial centers of London, New York, Tokyo, Zürich, Frankfurt, Hong Kong, Singapore, Paris, and
Sydney. Until recently, forex trading in the currency market was largely the domain of large financial

5
institutions, corporations, central banks, hedge funds, and extremely wealthy individuals. The
emergence of the internet has changed all of this, and now average investors can buy and sell currencies
easily with the click of a mouse through online brokerage accounts.

6. Primary Markets vs. Secondary Markets

A primary market issues new securities on an exchange. Companies, governments, and other groups
obtain financing through debt or equity-based securities. Primary markets, also known as "new issue
markets," are facilitated by underwriting groups, consisting of investment banks that will set a beginning
price range for a given security and then oversee its sale directly to investors.

The primary markets are where investors have their first chance to participate in a new security
issuance. The issuing company or group receives cash proceeds from the sale, which is used to fund
operations or expand the business.

The secondary market is where investors purchase securities or assets from other investors rather than
from issuing companies themselves. The Securities and Exchange Commission (SEC) registers securities
before their primary issuance; they start trading in the secondary market.

The secondary market is where the bulk of exchange trading occurs each day. Primary markets can see
increased volatility over secondary markets because it is difficult to accurately gauge investor demand
for new security until several days of trading have occurred. In the primary market, prices are often set
beforehand, whereas, in the secondary market, only basic forces like supply and demand determine the
security price. Secondary markets exist for other securities, such as when funds, investment banks, or
entities such as Fannie Mae purchase mortgages from issuing lenders. In any secondary market trade,
the cash proceeds go to an investor rather than to the underlying company/entity directly.

7. The OTC Market

The over-the-counter (OTC) market is a secondary market also referred to as a dealer market. The term
"over-the-counter" refers to stocks not trading on a stock exchange. It is a decentralized market,
without a central physical location, where market participants trade through various communication
modes such as the telephone, email, and proprietary electronic trading systems. An over-the-counter
(OTC) market and an exchange market are the two basic ways of organizing financial markets. In an OTC
market, dealers act as market-makers by quoting prices to buy and sell a security, currency, or other
financial products. A trade can be executed between two participants in an OTC market without others
knowing the price at which the transaction was completed. OTC markets are typically less transparent
than exchanges and are also subject to fewer regulations.