Capital markets encompass various financial avenues for raising funds through investments like bonds and stocks. The primary capital market is where new stocks and bonds are initially created and sold to investors, while the secondary capital market is where investors trade existing securities.
Primary Capital Markets
In the primary capital market, companies issue new stocks and bonds to the public for the first time. This process is often known as an initial public offering (IPO). Companies hire underwriting firms to review their offerings and create a prospectus detailing the securities' price and other relevant information.
Regulatory bodies like the Securities and Exchange Commission (SEC) closely oversee all activities in the primary market. However, an increasingly popular method for companies to enter the capital markets is through Special Purpose Acquisition Companies (SPACs), which offer a less stringent regulatory process than traditional IPOs.
Investment banks play a crucial role in the primary market by securing commitments from institutional investors to purchase the securities. Due to the high volume of securities being sold, small investors may find it challenging to participate in primary market offerings.
Prices in the primary market can be volatile as demand for newly issued securities is often unpredictable. Consequently, many IPOs are initially priced conservatively to attract investors.
Companies can raise additional equity in the primary market through rights offerings or private placements, offering shares to existing shareholders or large institutional investors directly, respectively.
Secondary Capital Markets
In contrast, the secondary market is where investors trade existing securities after they have been issued in the primary market. This market, commonly known as the stock market, includes exchanges like the New York Stock Exchange (NYSE) and Nasdaq.
Unlike the primary market, where securities are sold directly by the issuing company, investors trade with one another in the secondary market. Brokers facilitate these transactions on behalf of investors, who can purchase securities at prevailing market prices.
The secondary market provides greater accessibility to small investors, as they can buy and sell securities freely once they are listed. However, investors must pay a commission to brokers for executing trades.
Prices in the secondary market fluctuate based on supply and demand dynamics. This market's volume varies daily as investors buy and sell securities, influencing price movements.
For example, since Tesla's IPO on June 29, 2010, individual investors have actively traded Tesla stock on the secondary market independently of the company's involvement.
The secondary market is further categorized into auction and dealer markets, each with its distinctive trading mechanisms. Auction markets, like the NYSE, witness buyers and sellers congregating in one location to trade securities openly, whereas dealer markets facilitate electronic trading through networks, enhancing accessibility for small investors.