What is Primary Market? Meaning, Examples and Role

Primary market forms part of the capital market, which is involved in issuing and selling of new securities. It may or may not be directly from corporates.

Meaning

Investors buy securities that will never be treated before, and primary markets create long-term instruments with the help of which funds are raised from the capital market. The alternative term for the primary market is the new issue market.

In case of the primary market, the funds can be raised through bond issues by companies, and government and corporations use this primary market to raise the capital by selling your stocks with the help of initial public offering alternatively known as IPO.

Investment bankers used to perform the function of an IPO.

Underwriting is the process of selling new shares to the existing investors instead of going via the channels of underwriters; the companies make a primary issue of their stock which involves issuing of their stock to the institutional investors so that they can get additional capital funding from existing shareholders.

Investors are issued with stocks directly by the company, and the company issues certificates receive the money to the investors.

Once the securities are issued, they are traded on the secondary markets such as derivatives exchange, stock exchange, or bond market. The help makes the securities sale in the primary market of finance indicator investment bank.

The securities are created in the private market where the firms sell new stocks to the public for the first time. They provide an opportunity for investors to purchase securities from the bank. It is the same bank that used to underwrite a particular stock.

For example, a company ABC Inc hires multiple underwriting firms to provide financial details of its IPO. The stock is to be issued at $25 as per underwriters, and after that, the investors can buy the IPO directly from the company issuing the IPO. The company thus provides the first opportunity for investors to contribute finance of the company by purchasing its stocks.

The funds that are generated by stock sales on the primary market makes the company’s equity capital. Issues of the primary market, if any, are subjected to strong regulations. The approval for filings should be taken before they can be sent to the public.

Additional equity can be permitted to be raised through the primary market. The shares that are owned by the current investors, and based on those shares, they are offered prorated rights.

Other offerings of the Primary market include preferential allotment and private placement.

This also allows major investors such as hedge funds and banks to buy directly from investors. The special price is provided to them, which is not yet made available to the public.

Following is an example of the primary market selling

The IPO of Facebook in 2012 was considered one of the biggest IPO of an online company. People expected that the value of the stock would increase owing to the popularity of the site, and it would even rise in the secondary market.

$38 was the additional price per share which was priced by underwriters due to the high demand in the primary market. This was raised by 25%  to a whopping 421 million shares. This did the stock valuation to 104 Billion dollars and made facebook largest of any newly public company.

The funds are raised from the Primary Market in three different ways:

1. Public issue – Stock Exchange lists the corporate raises funds with the help of IPO and the list of securities.
2. Rights Issue – A discounted price and pro-rata basis shares are provided for existing shareholders.
3. Preferential Allotment – The shares are issued by corporates which are not equal or related to the current market price.

Role of Primary Market

1. The securities that are issued in the primary market can be sold in the secondary market quite faster since it has a high rate of liquidity.
2. Primary market provides, specifically for potential investors, with an attractive issue which helps the company to raise capital at a relatively lower cost.
3. The primary market invites significant investment from many financial institutions and intermediaries. This reduces the risk level significantly as even if there is a failure in investment from one company, there are other investors available. The risk is significantly lowered owing to the diversification of investment.
4. All of the details of prospectus about securities are provided to the investors. This reduces the cost of search and assessment of individual securities.
5. The securities are issued not by any financial intermediaries but by the company directly, which reduces the risk level for the investors and helps to build trust.