Secondary market is market where investors buy securities from other marketplace investors and not from the issuing company directly. Primary market is market when securities are first issued (read article about Primary market and IPO).
Well, the investors are eligible to buy and sell the securities that they already possess in a secondary market.This is what most people usually referred to as the stock market.However, these Stocks are normally sold when they are issued in the primary market. Therefore, national exchanges such as NASDAQ and NYSE are secondary markets. When the security is issued by the company for the first time it is done in a primary market. Therefore,after Initial public offering(IPO) then the securities can now be availed in the secondary market.
Additionally, there are also other types of secondary markets apart from traded securities. For instance, individual investors, corporate and investment banks can buy and sell mutual funds on a secondary market. Therefore,any transaction that goes on in this market has been removed from the transaction that had initially created the securities. You will realize that the massively interconnected trades drive the securities based on their initial value.
Characteristics of secondary market
The secondary market is characterized by the following features.
It creates liquidity
The secondary market is known for creating liquidity in its securities this implies that it allows immediate conversion of securities into cash. Therefore,any investor can easily obtain his cash because of the vast presence of buyers who are present in the market.
It comes After Primary Market
It is not possible to trade new securities in the secondary markets because such securities are normally first sold in the primary market. Therefore, this makes the secondary market to come in after the primary market.
It has a particular place
The secondary market trading platform is on the stock exchange. However, it is not mandatory that the buying and selling will only be down of the stock exchange. This is because two individuals can decide to mutually buy or sell them which will also be taken as a transaction of the secondary market. Therefore,as you have seen most transactions are made via the stock exchange.
It encourages New Investment
The securities and rates of shares fluctuate in the share market. It leads yo a Nationwide increase in investment rates because it attracts many investors.
Adjustment of prices
The secondary market reflects the news or any useful information on the stock price which allows it to adjust its pricing in regards to developing the security.
Low transactions cost
In a secondary market, you will get to enjoy low transaction cost because there are large volumes of trades taking place.
Assist in price discovery
The supply economics and demand in the market assist in price discovery. It is also another good alternative option that opens avenues to saving.
Role of secondary market
Secondary Market regulations
Secondary Market is an important source of liquidity and capital for both the investors and companies. That is why the government imposes heavy regulations on it to ensure the investors’ money is safe.
Additionally, there is also a private secondary market which deals with private equity funds where the buyers have an option to stay on them because sellers not only sell their investments but they also their commitment is unfunded. Irrespective of the type of secondary market the government controls its operation by bringing in regulations because they are an important source of revenue. Besides, it provides a gateway to control and monitor public perceptions of the company. This in return helps in making decisions on the aggregation of information and incentive-based management contracts.
Major Instruments and Players in Secondary Market
The secondary market deals with hybrid instruments, variable income, and fixed income. Some examples of this fixed income include preference shares and debt securities such as debentures and bonds. On the other hand, variable income securities might include instruments such as derivatives and equity. The hybrid instruments are the convertible debentures and preference shares.
Therefore, the key players in this market are advisory and brokerage services such as security dealers and commission brokers. Others include retail investors and financial intermediaries such as non -banking financial companies, mutual funds,insurance companies, and banks.
Types of Secondary Markets
We have two types of secondary markets.
Over The Counter (OTC) Markets
This is a decentralized market where members trade among themselves. An example of such a market is forex.However, there is usually there is higher competition among the participants because they want to get a bigger share of the trade which makes the security prices vary. The direct dealings among the parties make it susceptible to counterparty risks.
Exchanges – secondary market stock exchange
This includes platforms such as NASDAQ and NYSE where there is no direct contact between the seller and the buyer. The good thing with this type of secondary market is that there are no counterparty risks. It also has good security because of the heavy security that it is imposed. However, the commissions and exchange fees make it have higher transaction costs.
Pricing in the Secondary Market
In the secondary market, the price of a security is usually determined by the supply of demand while for the case of the primary market the security is set beforehand. For instance, the demand if a stock will do if an investor believes that the stock would increase in demand which also influences the pricing to go up. A price drop occurs when the investors feel the stock will lose value.
- Importance of secondary Market
It is an indicator of the country’s economy
- It helps the company to control and monitor public perceptions
- It gives a company value for being an economic force
- It allows the investors to make some returns on idle money
- It guarantees liquidity for the investors because they can easily sell or buy securities.
The difference Between The Primary and Secondary Markets
In the primary market, the IPO is primarily sold in this market but for the case of secondary markets, the IPO will be traded there.
Prices don’t fluctuate in the primary market but they fluctuate in the secondary market
The price of a security is set beforehand in the primary markets whereas for the secondary market the supply and demand are the key basis of price determination.
In the primary market, the sales go to the issuing company while for the secondary market the sales go to the investors who are selling them.
Purchases through an IPO requires a large investment in a primary market but for the secondary market, an investor can buy as many shares that he wants.
Companies hire banks to manage their IPO in the primary market but for the other case, investors hire brokers to manage the trade.