Secondary Market Meaning and Role

2nd July 2022 0 By indiafreenotes

The secondary market is where securities are traded after the company has sold its offering on the primary market. It is also referred to as the stock market. The New York Stock Exchange (NYSE), London Stock Exchange, and Nasdaq are secondary markets.

Small investors have a much better chance of trading securities on the secondary market since they are excluded from IPOs. Anyone can purchase securities on the secondary market as long as they are willing to pay the asking price per share.

A broker typically purchases the securities on behalf of an investor in the secondary market. Unlike the primary market, where prices are set before an IPO takes place, prices on the secondary market fluctuate with demand. Investors will also have to pay a commission to the broker for carrying out the trade.

The volume of securities traded varies from day to day, as supply and demand for the security fluctuates. This also has a big effect on the security’s price.

Because the initial offering is complete, the issuing company is no longer a party to any sale between two investors, except in the case of a company stock buyback. For example, after Apple’s Dec. 12, 1980, IPO on the primary market, individual investors have been able to purchase Apple stock on the secondary market. Because Apple is no longer involved in the issue of its stock, investors will, essentially, deal with one another when they trade shares in the company.

Role of Secondary Market

Maintaining the Fair Price of Shares

The secondary market is a market of already issued securities after the initial public offering (IPO). Capital markets run on the basis of supply and demand of shares. Secondary markets maintain the fair price of shares depending on the balance of demand and supply. As no single agent can influence the share price, the secondary markets help keep the fair prices of securities intact.

Facilitating Capital Allocation

Secondary markets facilitate capital allocation by price signaling for the primary market. By signaling the prices of shares yet to be released in the secondary market, the secondary markets help in allocating shares.

Offering Liquidity and Marketability

Second-hand shares are of no use if they cannot be sold and bought for liquid cash whenever needed. The shareholders usually use the share markets as the place where there is enough liquidity and marketability of shares. That means that the secondary markets play the role of a third party in the exchange of shares.

Without a secondary market, the buyers and sellers would be left with a self-exchange in one-to-one mode that is not quite effective till now. Therefore, the secondary market is a facilitating body of liquidity and marketability for the shareholders.

Adjusting the Portfolios

Secondary markets allow investors to adapt to adjusting portfolios of securities. That is, the secondary markets allow investors to choose shares for buying as well as for selling to build a solid portfolio of shares that offers maximum returns. Investors and shareholders can change their investment portfolios in secondary markets that cannot be done anywhere else.