When one investor sells a share to another, the company that issued it usually gets nothing. The money goes to the seller. That kind of trade belongs to the secondary market, also called the aftermarket, where previously issued shares, bonds, options and futures change hands.
The primary market is where the issuer is paid. A company selling shares in an initial public offering or a private placement often goes through an underwriter, who buys the securities and resells them to other buyers for a fee. A buyer can also deal directly with the federal government for Treasuries. Every sale after that first one is secondary.
Why issuers care anyway
The issuer may not see the cash, but it feels the effects. Accurate share prices help direct scarce capital when new projects are financed through a later primary offering. They can reduce the agency costs of management and make a hostile takeover less risky, which moves capital toward better managers. They also help allocate debt finance, whether through bond offerings or institutional borrowing.
Liquidity and the exchanges
Secondary markets need to be liquid. Originally the only way to get there was for investors and speculators to meet at a fixed place on a regular basis, which is how stock exchanges began. As a rule, the more participants and the more centralized the market, the more liquid it is.
The New York Stock Exchange, the London Stock Exchange and the Nasdaq Stock Market are the most visible examples for listed stocks. Elsewhere it is looser. Most bonds and structured products trade over the counter, often by phoning a broker-dealer’s bond desk. Loans sometimes trade online on a loan exchange.
Beyond securities
The term also covers mortgage loans that a bank sells to investors such as Fannie Mae and Freddie Mac, and the market for any used goods or assets. It describes new uses of an existing product too. Corn grown for food and feed, for example, has found a second market in ethanol production.
Patents and rights to musical compositions trade the same way, since owners can resell property entitlements the government issued. Time-share ownership shares are bought and sold outside the official exchange the issuers set up. In private equity, sellers can pass on their stake in a fund along with their remaining unfunded commitments.
After the Sarbanes-Oxley Act of 2002 raised compliance and reporting duties for U.S. public companies, private secondary markets such as SecondMarket and SecondaryLink emerged. They are generally open only to institutional or accredited investors and let them trade unregistered and private company securities.
