While the money market and the capital market are both aspects of the larger global financial system, they serve different goals for investors. In a nutshell, the money market is where short-term debt and lending takes place; the capital market is designed for long-term assets, such as stocks and bonds. The former is considered a safer place to park one’s money; the latter is seen as riskier but potentially more rewarding.
Understanding the difference between money market and capital market matters plays a role in understanding the market as a whole. Whether you hold assets that are part of the money market vs. capital market can influence your investment outcomes and degree of risk exposure.
Learn more here, including:
• What is the money market and how does it work?
• What is the capital market and how does it work?
• How do capital markets and money markets differ?
• How to decide whether to invest in the money market or capital market.
• Alternatives to the capital and money markets.
What Is the Money Market?
The money market is where short-term financial instruments, i.e. securities with a holding period of one year or less, are traded. Examples of money market instruments include:
• Bankers acceptances. Bankers acceptances are a form of payment that’s guaranteed by the bank and is commonly used to finance international transactions involving goods and services.
• Certificates of deposit (CDs). Certificate of deposit accounts are time deposits that pay interest over a set maturity term.
• Commercial paper. Commercial paper includes short-term, unsecured promissory notes issued by financial and non-financial corporations.
• Treasury bills (T-bills). Treasury bills are a type of short-term debt that’s issued by the federal government. Investors who purchase T-bills can earn interest on their money over a set maturity term.
These types of money market instruments can be traded among banks, financial institutions, and brokers. Trades can take place over the counter, meaning the underlying securities are not listed on a trading exchange like the New York Stock Exchange (NYSE) or the Nasdaq.
You may be familiar with the term “money market” if you’ve ever had a money market account. These are separate from the larger money market that is part of the global economy. As far as how a money market account works goes, these bank accounts allow you to deposit money and earn interest. You may be able to write checks from the account or use a debit card to make purchases or withdrawals.
How Does the Money Market Work?
The money market effectively works as a short-term lending and borrowing system for its various participants. Those who invest in the money market benefit by either gaining access to funds or by earning interest on their investments. Treasury bills are a great example of the money market at work.
When you buy a T-bill, you’re essentially agreeing to lend the federal government your money for a certain amount of time. T-bills mature in one year or less from their issue date. The government gets the use of your money for a period of time. Once the T-bill matures, you get your money back with interest.
What Is the Capital Market?
What are capital markets? The capital market is the segment of the financial market that’s reserved for trading of long-term debt instruments. Participants in the capital market can use it to raise capital by issuing shares of stock, bonds, and other long-term securities. Those who invest in these debt instruments are also part of the capital market.
The capital market can be further segmented into the primary and secondary market. Here’s how they compare:
• Primary market. The primary market is where new issuances of stocks and bonds are first offered to investors. An initial public offering or IPO is an example of a primary market transaction.
• Secondary market. The secondary market is where securities that have already been issued are traded between investors. The entity that issued the stocks or bonds is not necessarily involved in this transaction.
As an investor, you can benefit from participating in the capital market by buying and selling stocks. If your stocks go up in value, you could sell them for a capital gain. You can also derive current income from stocks that pay out dividends.
Recommended: What Is an Emerging Market?
How Does the Capital Market Work?
The capital market works by allowing companies and other entities to raise capital. Publicly-traded stocks, bonds, and other securities are traded on stock exchanges. Generally speaking, the capital market is well-organized. Companies that issue stocks are interested in raising capital for the long-term, which can be used to fund growth and expansion projects or simply to meet operating needs.
In terms of the difference between capital and money market investments, it usually boils down to three things: liquidity, duration, and risk. While the money market is focused on the short-term, the capital market is a longer term play. Capital markets can deliver higher returns, though investors may assume greater risk.
Understanding the capital market is important because of how it correlates to economic movements as a whole. The capital market helps to create stability by allowing companies to raise capital, which can be used to fund expansion and create jobs.
Differences Between Money Markets and Capital Markets
When comparing the money market vs. capital market, there are several things that separate one from the other. Knowing what the key differences are can help to deepen your understanding of money markets and capital markets.
Perhaps the most significant difference between the money market and capital market is what each one is designed to do. The money market is for short-term borrowing and lending. Businesses use the money market to meet their near-term credit needs. Funds are relatively safe, but typically won’t see tremendous growth.
The capital market is also designed to help businesses and companies meet credit needs. The emphasis, however, is on mid- to long-term needs instead. Capital markets are riskier, but they may earn greater returns over time than the money market.
Length of Securities
The money market is where you’ll find short-term securities, typically with a maturity period of one year or less, being traded. In the capital market, maturity periods are usually not fixed, meaning there’s no specified time frame. Companies can use the capital market to fund long-term goals, with or without a deadline.
As mentioned, the kind of financial instruments that are traded in the short-term money market include bankers acceptances, certificates of deposit, commercial paper, and Treasury bills. The capital market is the domain of stocks, bonds, and other long-term securities.
Nature of Market
The structure and organization of the money market is usually informal and loosely organized. Again, securities may be traded over-the-counter rather than through a stock exchange. With the capital market, trading takes place primarily through exchanges. This market is more organized and formalized overall.
Risk is an important consideration when deciding on the best places to put your money. Since the money market tends to be shorter term in nature, the risk associated with the financial instruments traded there is usually lower. The capital market, on the other hand, may entail higher risk to investors.
Liquidity is a measure of how easy it is to convert an asset to cash. One notable difference between capital and money market investments is that the money market tends to offer greater liquidity. That means if you need to sell an investment quickly, you’ll have a better chance of converting it to cash in the money market.
Length of Credit Requirements
The money market is designed to meet the short-term credit requirements of businesses. A company that needs temporary funding for a project that’s expected to take less than a year to complete, for example, may turn to the money market. The capital market, on the other hand, is designed to cover a company’s long-term credit requirements with regard to capital access.
Return on Investment
Return on investment or ROI is another important consideration when deciding where to invest. When you invest in the money market, you’re getting greater liquidity with less risk but that can translate to lower returns. The capital market can entail more risk, but you may be rewarded with higher returns.
Timeframe on Redemption
Money market investments do not require you to hold onto them for years at a time. Instead, the holding period and timeframe to redemption is likely one year or less. With capital market investments, there is typically no set time frame. You can hold onto investments for as long as they continue to meet your needs.
Relevance to Economy
The money market and capital market play an important role in the larger financial market. Without them, businesses would not be able to get the short- and long-term funding they need.
Here are some of the key differences between money markets and capital markets with regard to their economic impacts:
• The money market allows companies to realize short-term goals.
• Money market investments allow investors to earn returns with lower risk.
• Capital markets help to provide economic stability and growth.
• Investors can use the capital market to build wealth.
|Money Market||Capital Market|
|Offers companies access to short-term funding and capital, keeping money moving through the economy.||Provides stability by allowing companies access to long-term funding and capital.|
|Investors can use interest earned from money market investments to preserve wealth.||Investors can use returns earned from capital market investments to grow wealth.|
|Money market investments are typically less volatile, so they’re less likely to negatively impact the financial market or the investor.||Capital market investments tend to be more volatile, so they offer greater risk and reward potential.|
Ready for a Better Banking Experience?
Open a SoFi Checking and Savings Account and start earning up to up to 3.25% APY on your cash!
Deciding Which Market to Invest In
Deciding whether to invest in the money market or capital market can depend on several things, including your:
• Investment goals and objectives
• Risk tolerance
• Preferred investment style
If you’re looking for investments that are highly liquid and offer a modest rate of return with minimal risk, then you may turn to the money market. On the other hand, if you’re comfortable with a greater degree of risk in exchange for the possibility of earning higher returns, you might lean toward the capital market instead.
You could, of course, diversify by investing in both the money market and capital market. Doing so can allow you to balance higher-risk investments with lower ones while creating a portfolio mix that will produce the kind of returns you seek.
Alternatives to Money and Capital Markets
Aside from the money and capital markets, there are other places you can keep money that you don’t necessarily plan to spend right away. They include the different types of deposit accounts you can open at banks and credit unions. Specifically, you may opt to keep some of your savings in a certificate of deposit account, high-yield checking account, or traditional savings account. Here’s a closer look:
Certificate of Deposits
Certificate of deposit accounts or CDs are time deposit accounts. When you put money into a CD, you typically agree to leave it there for a set time period. In exchange, the bank pays interest to you. Once the CD matures, you can withdraw your initial deposit and the interest earned or roll the entire amount into a new CD.
CDs are a safe way to invest for the short- or long-term. Maturity terms can range from 28 days or extend up to five years. The longer the CD term, the higher the interest rate the bank may pay. Withdrawing money from a CD prior to maturity will usually trigger an early withdrawal penalty, which makes them a less liquid option for saving.
Recommended: What is a Certificate of Deposit and How Does it Work?
High-Yield Checking Accounts
Checking accounts are designed to hold money that you plan to use to pay bills or make purchases. Most checking accounts don’t pay interest but there are a handful of high-yield checking accounts that do.
With these accounts, you can earn interest on your checking balance. The interest rate and APY (annual percentage yield) you earn can vary by bank. Some banks also offer rewards on purchases with high-yield checking accounts. When looking for an interest-checking account, be sure to consider any fees you might pay or minimum balance requirements you’ll need to meet.
Traditional Savings Accounts
A savings account can be another secure place to keep your money and earn interest as part of the bargain. The different types of savings accounts include regular savings accounts offered at banks, credit union savings accounts, and high-yield savings accounts from online banks.
Of those options, high-yield savings accounts at online banks typically have the highest interest rates and the lowest fees. The trade-off is that you won’t have branch banking access, which may or may not matter to you.
There are lots of reasons why people do not invest their money. A lack of understanding about the difference between money market vs. capital market investments can be one of them. Once you understand that the money market typically involves short-term, lower-risk debt instruments, while the capital market likely revolves around longer-term ones with higher risk and reward, you will be on your way to better knowing how the global financial market works.
When it comes to the goal of making your money grow, consider banking with SoFi. When you open our bank account online with direct deposit, you’ll get a double boost. You’ll earn a hyper competitive APY and you won’t pay any account fees.
What are the similarities between a money market and capital market?
Both the money market and the capital market are intended to make it easier for businesses and companies to gain access to capital. The main differences between money markets and capital markets are liquidity, duration, and the types of financial instruments that are traded. Both also represent ways that consumers can potentially grow their money by investing.
How is a money market and capital market interrelated?
The capital market and the money market are both part of the larger financial market. The money market works to ensure that businesses are able to reach their near-term credit needs while the capital market helps companies raise capital over longer time frames.
Why do businesses use the money markets?
Businesses use the money market to satisfy short-term credit and capital needs. Short-term debt instruments can be traded in the money market to provide businesses with funding temporarily as well as to maintain liquid cash flow.
Photo credit: iStock/AndreyPopov
SoFi members with direct deposit can earn up to 3.25% annual percentage yield (APY) interest on Savings account balances (including Vaults) and up to 2.50% APY on Checking account balances. There is no minimum direct deposit amount required to qualify for these rates. Members without direct deposit will earn 1.20% APY on all account balances in Checking and Savings (including Vaults). Interest rates are variable and subject to change at any time. These rates are current as of 11/3/2022. Additional information can be found at http://www.sofi.com/legal/banking-rate-sheet
SoFi® Checking and Savings is offered through SoFi Bank, N.A. ©2022 SoFi Bank, N.A. All rights reserved. Member FDIC. Equal Housing Lender.
Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
In the money market, only short-term liquid financial instruments are exchanged. Whereas, in the capital market, only long term securities are dealt with. Capital Market plays a significant role in the growth of a country's economy as it provides a platform for mobilising the funds.Which is better capital market or money 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.What are three main differences between money and capital markets? ›
Short-term securities are traded in money markets, whereas long-term securities are traded in capital markets. Capital markets are well organized, whereas money markets are not that organized. Liquidity is high in the money market, whereas liquidity is comparatively low in capital markets.
Capital market is a place where buyers and sellers indulge in trade (buying/selling) of financial securities like bonds, stocks, etc. The trading is undertaken by participants such as individuals and institutions. Capital market trades mostly in long-term securities.What is the main difference between money markets and capital markets quizlet? ›
A "money" market is places of exchange for debt instruments with an original maturity of less than one year. A "capital" market is places of exchange for debt instruments with an original maturity of more than one year and also the market for equity securities (common stocks and preferred stocks).Why money market is safer than capital market? ›
The liquidity is high in the money market, but in the case of the capital market, liquidity is comparatively less. Hence, "Money market instruments are safer than capital market instruments".Do money market and capital market perform the same function? ›
The primary function of the money markets is to provide short term liquidity to the economy. On the other hand, the primary function of the capital markets is to channelize the savings of the economy in a meaningful way to aid growth and development.What is better than a money market? ›
Key Takeaways. Alternatives to money market mutual funds include high-yield savings accounts, money market deposit accounts, CDs, bonds, and bond funds. CDs and bonds are essentially a loan to an entity in exchange for payments in the form of yield.What is the difference between money market and capital market give and example? ›
The money market is the trade in short-term debt. It is a constant flow of cash between governments, corporations, banks, and financial institutions, borrowing and lending for a term as short as overnight and no longer than a year. The capital market encompasses the trade in both stocks and bonds.What is capital market in your own words? ›
Capital markets are financial markets that bring buyers and sellers together to trade stocks, bonds, currencies, and other financial assets. Capital markets include the stock market and the bond market. They help people with ideas become entrepreneurs and help small businesses grow into big companies.
A capital market is where individuals and firms borrow funds using shares, bonds, debentures, debt instruments, etc. The most common example is a stock exchange such as NASDAQ, trading shares from different companies amongst investors.What is the purpose of capital market? ›
The primary role of the capital market is to raise long-term funds for governments, banks, and corporations while providing a platform for the trading of securities. This fundraising is regulated by the performance of the stock and bond markets within the capital market.What is the biggest disadvantage of money market? ›
- Minimum balance requirements. Every bank has different rules for the minimum amount needed to open a money market savings account. ...
- Interest rates. ...
- Fees. ...
- Withdrawal restrictions.
The main feature of financial markets that leads to imperfection is information asymmetry between borrowers and lenders. We see two main types of information asymmetries in capital markets: Adverse selection: Adverse selection occurs before the signing of the contract.What are the pros and cons of money markets? ›
- Money market investing can be very advantageous, especially if you need a short-term, relatively safe place to park cash.
- Some disadvantages are low returns, a loss of purchasing power, and that some money market investments are not FDIC insured.
The Reserve Bank regulates financial markets within the overarching statutory framework of the Reserve Bank of India Act, 1934, the Government Securities Act, 2006, Foreign Exchange Management Act, 1999, the Bilateral Netting of Qualified Financial Contracts Act, 2020 and the Payment and Settlement Systems Act, 2007.Which function of capital market is most important? ›
Functions of Capital Market:
Facilitates the movement of capital to be used more profitability and productively to boost the national income. Boosts economic growth. Mobilization of savings to finance long term investment. Facilitates trading of securities.
Similarities between the money market and capital market are as follows: Both are important components of the international finance market. Both markets permit investors to purchase debt securities. Businesses and governments depend on both the markets for raising money for operations.Why money market is a good idea? ›
Money market funds invest in highly liquid securities like cash, cash equivalents, and high-rated debt-based securities. Because they only invest in highly rated securities, money market funds offer a high degree of safety. Money market funds also offer investors higher yields than traditional savings accounts.What is the most important advantage of money market? ›
With no maturity date, one of the main benefits of a money market account is its liquidity, Denney says. This comes in handy if you want to set up an account that earns interest and where the cash is accessed easily, like an emergency fund, or, if you're lucky, a splurge fund.
Money market funds are generally considered one of the most stable investments—they experience low volatility and are less prone to market fluctuations. Money funds are also more liquid than other investments with similar returns, such as CDs, because they allow you to withdraw cash or buy other investments quickly.Is money market or capital market riskier? ›
In a nutshell, the money market is where short-term debt and lending takes place; the capital market is designed for long-term assets, such as stocks and bonds. The former is considered a safer place to park one's money; the latter is seen as riskier but potentially more rewarding.What is the downside of a money market account? ›
Money market investing can be very advantageous, especially if you need a short-term, relatively safe place to park cash. Some disadvantages are low returns, a loss of purchasing power, and that some money market investments are not FDIC insured.Which financial market is the most profitable? ›
The U.S. stock market is considered to offer the highest investment returns over time. Higher returns, however, come with higher risk. Stock prices typically are more volatile than bond prices.Is it good to invest in capital market? ›
Investing directly in the market allows the scope for higher returns when compared to investing in other instruments such as fixed deposits and provident funds. By using certain strategies and analysis, you can maximize your gains in the capital market.