An original issuer first sells stocks, bonds, and other securities in a primary market. While these securities originate from a primary issuer, most of the trading for these investment instruments usually takes place on the secondary market.
What is a secondary market?
A secondary market is where traders buy and sell securities with each other rather than trading with the initial issuer of the stock, bond, or other security on the primary market. Most investors will be buying and selling with other traders. So when most investors talk about the stock market, they are referring to the secondary market.
The New York Stock Exchange (NYSE) and the Nasdaq Stock Market are secondary market exchanges that make it easy for investors to buy and sell equities. Over-the-counter (OTC) trading also occurs on the secondary market and can be used to purchase penny stocks or stocks not listed on a major U.S. exchange. OTC secondary markets also exist for bonds and other securities.
How do secondary markets work for stocks?
When a company conducts an initial public offering (IPO), it is selling shares through a primary market. To participate in the primary offering, investors typically must meet certain requirements and have access to a brokerage that supports IPO trading.
These requirements can include having a certain amount of financial assets and purchasing a minimum number of shares. As a result, the primary market tends to favor large institutional investors.
Even on the day of a company's public stock debut, most investors will only be able to buy and sell shares on the secondary market. After the IPO, most subsequent trading also takes place on the secondary market -- with pricing that reflects supply and demand. Investors set the prices at which they are willing to buy and sell a stock.
After conducting an IPO, companies may also opt to sell new shares through follow-on offerings to raise funds. Companies may sell new stock through the primary market or in an at-the-market offering through a third-party agent on the secondary market.
Why are secondary markets important?
Without secondary markets, there would be little liquidity for stocks, bonds, and other securities. If only primary markets existed, investors could trade securities only when the initial issuer is interested in buying or selling.
Through secondary markets, stocks and other securities also are priced at levels that better reflect their value. If only primary markets existed, the market-shaping dynamics of supply and demand would be diminished -- and it would be more likely that securities would be overvalued or undervalued.
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