How Do Capital Market Works?

The word ‘market’ is identical with a buyer and a seller who have their own necessity to accomplish. In global capital markets, there are buyers and sellers and financial intermediary in between. The capital markets consist of primary and secondary markets.

Primary Market

Primary market creates new securities. Firms sell new stocks and bonds to the public for the first time. In this market, it is where an IPO (Initial Public Offering) takes place. The buying and selling activity is between company and investors. Therefore, securities are purchased directly from an issuing company. The issuers could only sell a security once and the price of a security is fixed.

Secondary Market

NYSE (New York Stock Exchange), IDX (Indonesia Stock Exchange), and Nasdaq are commonly known as major exchanges and they are part of a secondary market. Secondary market enables the buying and selling of previously issued securities. Investors trade previously issued securities without the issuing companies’ involvement. Therefore, investors trade among themselves. The securities can be sold in infinite number of times.

Who Buys, Sells, and Why

Buyers and sellers can be individual or institutional investors. They buy securities in order to ‘put cash to work’ by investing and earning a return to generate income on savings. Meanwhile, they sell securities for the purpose of raising cash to be reallocated into different investments and for a company is to broaden ownership and create a market value.

The example of buyers and sellers and their goal of buying and selling securities

· Government

Buy : To invest cash and funds to generate a return

Sell : To raise funding for public projects, such as roads and, such as in the case of sovereign wealth funds, to hedge portfolio risk.

· Companies

Buy :

· To invest the cash on its balance sheet in order to generate income

· To buy stock of another listed company, as part of a strategic partnership, or in order to acquire another company

· To buy back its own stock in order to raise the price of shares available to the public by reducing supply or to prevent some shareholders from gaining a controlling interest in the company

Sell :

· To raise cash for different corporate uses

· To issue additional shares to the public in order to raise funds for growth or expansion

· To sell an ownership stake in another company for raising funds or reflecting a change in a partnership or agreement

· Investors

Buy : To put cash to work and to own stocks or bonds to generate an investment return

Sell : To raise cash for short-term needs and to exit an investment, and realize a gain or loss

Financial Intermediary

Financial intermediary is a financial institution that connects buyers and sellers and helps determine market price. Financial intermediary plays an important role in facilitating transactions in which there isn’t a ready seller to match with a buyer, or vice versa. Therefore, the intermediary can act as a market maker, using its own capital or holding the assets until a buyer or seller can be found

Sources:

Goldman Sachs

Investopedia

Key Differences