When looking to grow wealth, investors have two primary options. They can invest in the money market or the capital market. Both these marketplaces involve the buying and selling of investment vehicles in the hopes of gaining returns. However, they greatly differ in the types of vehicles they offer, time horizon, liquidity and risk. By comparing the money market vs. capital market, you’ll be able to make an informed decision about the best way to invest your money.
What is the Money Market?
The money market is where short-term debt is bought and sold. It acts as a short-term lending system. Investors with extra money loan it for a short period of time to businesses and governments and receive modest returns through interest payments on their investments. Some common investment vehicles within the money market include collateral loans, Treasury bills and acceptances. Money market instruments are held for the short term, typically less than a year, and produce modest, but safe, returns.
What is the Capital Market?
The capital market is what most people think of when thinking about investing. It’s where the buying and selling of various investment vehicles occur, including stocks, bonds and other securities. Whereas the money market is usually used for short-term, relatively safe investments, investments on the capital market are riskier and are meant to be held for the long term. Similarly to the money market, it’s a way for businesses to generate money to grow. In return, they reward their investors with dividends, capital gains or interest payments, depending on the vehicle.
Key Differences Between the Money Market and Capital Market
Both the money market and the capital market are used by investors to grow their wealth. However, they have some key differences.
Time Horizon
The money market contains short-term debt investments. Investors lend their money for a short period of time and receive interest payments in return. These investments are designed to have a short investment horizon, typically under a year.
Many investments on the capital market can be easily bought and sold, such as stocks and exchange-traded funds (ETFs). However, they are designed to make investors money over the long term. Investors likely won’t get the gain they desire if invested in the capital market for only a few months to a year.
Instruments and Participants
The money market and capital market contain different investment vehicles. In the capital market, investors can invest in stocks, funds and bonds, as well as a variety of other securities. The money market is much more limited and contains vehicles like collateral loans, deposits and acceptances.
The capital market is more accessible to individual investors because of the variety of investment vehicles and ease of access. The money market can be a bit harder to participate in. However, there are money market funds that provide easy access to short-term debt securities.
Risk Levels
Investments on the money market are considered relatively low risk since the borrowers are typically governments and are well-established businesses. Investments in the capital market are riskier since it’s more easily influenced by changes in the economic environment.
Liquidity
The money market contains short-term investments, but once the money is invested, it cannot be accessed until the investment matures, which makes it less liquid. The capital market contains securities such as stocks and bonds that can be bought and sold any time that the market is open. There is much more opportunity for liquid investments in the capital market.
Purpose and Scope
The money market is intended to act as a short-term lending platform that connects businesses, governments and individuals. The purpose of the capital market is much more broad. Investors can also buy debt in the form of bonds or help a company raise money in the form of stocks. Some capital market securities are debt-based, but some also intend to help businesses grow.
Similarities Between the Money Market and Capital Market
These two markets share some similarities. Here are some commonalities found when comparing the money market vs. capital market.
Facilitating Borrowing and Lending
Both the money market and the capital market connect borrowers with lenders and facilitate debt transactions through a variety of securities. In the money market, however, debt securities have a shorter time horizon and are safer than capital markets.
Market Mechanisms and Regulations
Both markets function relatively similarly and are subject to the same regulations and laws. Investors allocate their extra capital to businesses and governments who need it, in the hopes that they’ll gain returns and profit. Investments from both markets are subject to taxes, such as income tax and capital gains tax.
Role in Economic Growth
The economy grows through transactions that help individuals and businesses succeed financially. Both of these markets allow investors and businesses to partake in a mutually beneficial relationship that aims to help each other grow their finances. Though the securities are different, transactions in both the money market and the capital market help stimulate the economy.
Find the Best Investments for Your Portfolio
Savvy investors can find opportunities in both the money market and the capital market. Holding securities in both markets can be a great way to diversify your holdings. Take a look at your financial goals and risk tolerance to decide the best way to allocate your capital. If you have any questions, consult a financial adviser for personalized advice and suggestions.
Frequently Asked Questions
Which is safer, the money market or the capital market?
Investments in the money market are generally considered less risky than investments in the capital market.
What is an example of a money market and a capital market?
Treasury bills are a common example of money market security. Capital market investments include stocks and bonds.
Are money markets safe if the market crashes?
The money market is considered a safe place to invest your capital, even if the economy dives. However, the returns are modest.
About Savannah Munholland
Savannah Munholland is an investment writer passionate about helping people learn more about accessible alternative investments. She has more than three years of writing experience, focusing on alternative and traditional investing, technology, and education. Her expertise in writing about art and wine investments is grounded in an MFA with knowledge of and immersion in a wide range of art-related topics. She uses her skills in creative writing to bring an appealing level of interest to her journalistic work, shifting even the most basic financial and investment topics from humdrum to compelling. Her work has been published on Benzinga, FreightWaves, and Study.com.