Primary and secondary markets: How stocks are issued and traded

When entering the world of stock markets and investing, two fundamental concepts you'll encounter are primary and secondary markets. These markets serve as the framework of the financial ecosystem, each playing distinct but complementary roles. Let's explore what they are and how they function.

Primary market: Where securities begin their journey

The primary market is where new securities like stocks and bonds are first issued to the public. This is the marketplace where companies offer their shares to investors for the first time through Initial Public Offerings (IPOs) to raise capital for business expansion, debt repayment, or other corporate purposes.

An IPO isn’t the only way companies issue new securities. Public companies can also raise money by selling new shares or debt directly to investors, such as pension funds or private individuals. This process is called a primary offering.

Key features of the primary market

• New securities only: The primary market exclusively deals with newly issued securities.
• Direct capital raising: Companies sell shares directly to investors to fund business expansion, new projects, or other financial needs.
• Digital process: There's no physical location; all transactions occur online.
• Various issue types: Companies can raise capital through IPOs, private placements, or rights issues.
• Multiple participants: The process involves issuers (companies), investors, underwriters, stock exchanges, and regulatory bodies.

How the primary market works

Consider a manufacturing company, ABC Private Limited, that wants to expand its operations. To fund new manufacturing units and machinery, the company decides to go public through an IPO. By selling a portion of its ownership in the form of shares, ABC raises the capital needed for its expansion plans.

Before the IPO, ABC's shares were not available to the public and were considered "unlisted." Once the company issues its shares for public trading, it enters the primary market and lists on stock exchanges like the BSE or NSE.

Secondary market: Where trading continues

The secondary market is where investors buy and sell securities like stocks and bonds that have already been issued. After being sold in the primary market, securities are traded among investors in the secondary market. This trading allows investors to easily enter or exit investments, making the market more liquid and helping to set fair prices for securities.

Stock exchanges like NSE and BSE are examples of organised secondary markets where securities are traded. In over-the-counter (OTC) networks, trades happen directly between parties without using a formal exchange.

Key features of the secondary market

• High liquidity: Shares can be traded easily, with buyers and sellers regularly available.
• Market-driven pricing: Prices fluctuate based on supply and demand, reflecting investor sentiment.
• Transparency: Information about prices and trades is accessible to all participants.
• Continuous trading: Unlike IPOs, the secondary market operates almost daily, allowing real-time trading.
• Investor-to-investor trading: The issuing company is not directly involved in these transactions.

How the secondary market works

Think of the primary market as buying a new car directly from the manufacturer. The secondary market is similar to the used car market. It's where investors trade previously issued shares among themselves, with brokers facilitating the process.

Key differences between primary and secondary markets

How to invest in both markets

• Primary market (IPO): You can apply for an IPO through your broker’s platform, such as Zerodha’s Kite. If shares are allotted to you, they will be credited to your demat account.
• Secondary market: You can buy or sell listed shares through your trading account provided by the broker. This is where most daily trading occurs.

The role of regulation

Both markets are regulated by authorities like SEBI (Securities and Exchange Board of India), which ensures fair practices, investor protection, and market integrity. SEBI oversees stock exchanges, share depositories, brokers, and other market participants to maintain a balanced and transparent financial ecosystem.

Primary and secondary markets are both essential parts of the financial system. The primary market allows businesses to raise capital, while the secondary market offers investors the opportunity to trade and invest easily. Together, they create a strong and active environment where companies can grow and investors can work toward building their wealth.