Does It Make a Difference if You Buy Stock in a Primary or Secondary Market?

Very few investors are offered stock in the primary market.

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The primary market is used by corporations to issue stocks directly to the public. Proceeds from a primary market offering go to the issuer after expenses have been paid out to the various professionals who help execute the offering. The secondary market provides for trading of already-issued stock. None of the sale proceeds flow back to the issuer. All it takes to buy stocks in the secondary market is a brokerage account. To buy shares in the primary market requires that you are -- or know -- someone with clout.

Initial Public Offering

The primary market is the venue for initial public offerings, or IPOs. An IPO is a rite of passage for a company, as it goes from a private entity to a listed corporation registered with the Securities and Exchange Commission. The initial shares are usually purchased by a syndicate of underwriters who then resell the shares to those fortunate enough to have received an allocation. Demand for IPO stocks far outstrips supply because IPO stocks normally zoom higher, at least temporarily, once they start trading in the secondary market.

Secondary Offerings on the Primary Market

The primary market also allows corporations to issue additional shares of stock, called secondary offerings. These offerings increase the number of outstanding shares available for trade in the secondary market. Since more shares have to split up the same amount of earnings, secondary offerings tend to lower the market price of shares. Large shareholders sometimes will create a secondary offering, but this does not create new stock and does not benefit the issuer.

Secondary Market

The New York Stock Exchange is an example of a secondary market. There, specialists arrange the purchase and sale of shares that already have been issued. The specialist is responsible for “making a market,” which requires him to be the buyer or seller when no one else is willing to trade. During sell-offs, a specialist tries to ensure that a stock’s price moves down in an orderly way, without huge price gaps between transactions. Specialists usually deal with big blocks of stock, whereas smaller orders are handled through a computerized trade-matching system.

The Difference for Investors

When you buy stock on the primary market, you pay a pre-established price to a broker who works with the syndicate. In an IPO situation, you may be able to book an immediate profit by selling shares of a hot stock in the secondary market at a handsome premium. Once in the secondary market, share prices are determined by supply and demand. Stock on the secondary market is liquid, which means you can buy large quantities of stock. You pay a brokerage commission to buy shares, but discount brokerage fees are typically under $10 for 1,000 shares of stock.