To be able to start a business, the first thing that’s required is capital, and the ways of raising capital can be classified into two broad categories: owned and borrowed. Equity Market is the primary source of owned capital, whereas, Debt Market is the source for borrowed capital. Both Equity Market and Debt Market comprise of investors, listed businesses and a governing body that formulates rules for the market.
Now, almost everyone has this confusion that whether debt financing is better, or equity financing is appropriate. Which is why, this article aims at distinguishing between Equity Market and Debt Market so that you can take a better call on where to invest, or which one to use for raising funds for your s business.
Definitions of Debt Market & Equity Market:
Debt market, or credit market is a financial market in which the investors are provided with issues/bonds and trading of debt securities. Debt instruments are assets that require a fixed payment to the holder, usually with interest. Equity market, or stock is a financial market in which shares are issued and traded through exchanges. Stocks are essentially securities that are a claim on the earnings and assets of a corporation.
What they symbolise: Participation in Equity Market shows interest of ownership in a corporation. Participation in Debt Market is solely a financial, interest-earning investment.
Debts on funds: Equity financing allows a company to acquire funds without incurring debt, whereas issuing a bond increases the debt burden of the bond issuer.
Risk levels: All stocks, irrespective of type, can be volatile and experience significant highs and lows in share values. Which is why, participation in Equity Market involves taking substantial amounts of risk. Participation in Debt Market is generally less risky than that in Equity Market.
Returns: Participation in Equity Market is generally with the hope of earning greater returns. Debt investments typically offer lower potential returns.
What’s for the investor: Those who participate in Equity Market can claim ownership of business whose shares they hold. Equity holders can exercise claims on the future earnings of the business. Bondholders can’t gain ownership of the business or have any claims of the future profits of the borrower. The borrower only has to repay the loan with interest.
Term: Equity Market fetches returns over a long period of time, whereas Debt Market fetches returns in a comparatively shorter term.
Nature of return: Returns from Equity Market are in the form of dividends, whereas returns from Debt Market are in the form of interest.
Level of research: Successful investment in Equity Market involves a greater deal of research and follow-ups.
Turnover rate: Compared to debt portfolios, equity portfolios have a substantially higher turnover rate.
In effect, it is necessary for companies to maintain a balance between debt and equity in their capital structure. From an investor point of view, participation in Equity Market or Debt Market depends on risk appetite, objective of investment, time duration etc. Whichever party you are, you should take your call after consulting experts who will provide you with up-to-date information on markets.