Buying and selling securities such as stocks and bonds takes place in one of two markets. Learn about the difference between primary and secondary markets from the perspective of an investor.
The term marketplace or simply market is a reference to a place where goods and services are bought and sold. When the corporate structure was first developed in the late nineteenth century, the term market came to figuratively mean a place where securities such as stocks and bonds are bought and sold. The New York Stock Exchange is one example of a market where trading takes place and is the best known market in the world. However, other markets exist all over the globe where billions of dollars of assets are traded annually.
There are two primary theoretical marketplaces where securities are traded. The term theoretical is used here because the market need not be a physical place where buyers and sellers meet to trade securities. This is akin to references to different markets for selling both new and used automobiles. The primary market for car sales refers to sales of cars between the manufacturer (or a dealership) and the buyer. A secondary market refers to used car sales and may be between any owner and seller. The point is that primary markets refer to new sales and secondary markets refer to used sales.
A stock exchange is any legally recognized market where securities can be bought and sold. Corporations that issue stock are traded in these markets and typically wish to be listed as an officially traded company so that the shares of stock can be purchased by investors in a liquid market. In addition, stock exchanges are regulated such that both companies and investors must follow trading rules making the transition of ownership safer and less risky. The liquidity of the market refers to the ease with which ownership of a company in the form of stocks can be bought and sold without delay or complications afforded by selling the stock on a one-to-one basis between each company and investor.
Buybacks and Secondary Markets
Sometimes a corporation is interested in buying or selling shares of its own stock. In this case, the company does benefit from the transaction but the stocks are still considered to be trading in secondary markets because the stock was issued at an earlier date. When a company buys its own stock in a buyback, it is reducing the number of shares of stock available for purchase in the secondary market. The company may do this to protect itself from a buyout or to use the stock as compensation for the purchase of a new asset. Either way it signals to the secondary markets that the value of the company is changing and holders of the stock need to reevaluate the worth of their part ownership of the company.
The main difference between primary and secondary markets has to do with who benefits from the sale or purchase of a corporation’s stock. When new stock is issued, the company benefits from the sale and the cash flow from the sale of new stock can be used to invest in the company’s operations. When stock is bought or sold between investors, the company does not directly benefit from the sale or purchase because money changes hands only between the two investors.