Introduction to the Securities Markets: Primary and Secondary Markets

A Securities market is an exchange where sale and purchase transactions of securities are conducted on the base of demand and supply. A well-functioning securities market should be able to provide timely and accurate information on the past transactions, liquidity, low transaction costs (internal efficiency) and securities prices that rapidly adjusted to all available information (external efficiency).

There are two level of securities markets:

  • Primary Market is the market for new securities issues and is facilitated by underwriting groups. The companies sell their securities to the public directly to the investors through the underwriters (normally investment banks for stock and bond issuance). When the firm is issuing shares for the very first time, it is called Initial Public Offering (IPO). New shares issued by firms whose shares are already trading in the market are called seasoned or secondary issues.  Issuing company receives cash from the sale and uses it to expand or fund the operations. After the initial sale, the securities trading will be conducted on the secondary market.
  • Secondary market, also known as the aftermarket, is the market where the trading of the previous issued securities is conducted.  On a secondary market, an investor buys securities from another investor instead of the issuer. It is important that the secondary market provides liquidity and therefore provides continuous information about the market price of the securities.

Secondary markets are mainly organized in two ways. One is to form a centralized and organized exchange where all buyers and sellers (or their representative agents) meet and conduct trading.  The more investors participate in a market, the greater the centralization of that market, and the more liquid the market. Some examples of this form of secondary markets are New York Stock Exchange (NYSE) and American Stock Exchange (AMEX). The other way is Over-the-counter (OTC) market which a secondary market where securities are traded directly between two parties. Trading occurs via dealers who carry inventories of securities and contact each other by computer, telephone or other electronic network instead of a physical trading floor. Over-the-counter dealers quote a bid price at which they would buy, and an ask price at which they would sell. An example of an over-the-counter securities market is the National Association of Securities Dealers Automated Quotations System (Nasdaq).

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