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Subject 6. Primary Security Markets
#cfa #cfa-level-1 #equity-market-organization-indices-and-market-efficiency #reading-46-market-organization-and-structure
The primary markets are those in which new issues of bonds, preferred stock, or common stock are sold by government units, municipalities, or companies to acquire new capital.

  • New issue.
  • Key factor: issuer receives the proceeds from the sale.

There are two important rules in the primary capital markets:

  • Rule 415 allows large firms to register security issues and sell them piecemeal over the following two years. Such issues are called shelf-registration. This rule allows a single registration document to be filed that permits the issuance of multiple securities.
  • Rule 144A allows corporations (including non-U.S. firms) to place securities privately with large, sophisticated investors. The issuer of a private placement reduces issuing costs because it does not have to complete the extensive registration documents. However, investors will require a higher return since no secondary market exists and thus the liquidity risk is high.

New stock issues are divided into two groups:

  • Initial public offerings (IPOs). These are new shares that a firm offers to the public for the first time. They are typically underwritten by investment bankers through negotiated arrangements (the most common form), competitive bids, and best-effort arrangements (investment bankers act as brokers, not taking the price risk).
  • Seasoned equity issues. These are new shares issued by firms that already have stocks outstanding.

A rights issue is an option that a company can opt for to raise capital under a secondary market offering or by using a seasoned equity offering of shares to raise money. It is a special form of shelf offering or shelf registration. With the issued rights, existing shareholders have the privilege of buying a specified number of new shares from the firm at a specified price within a specified time.

Government bond issues are sold at Federal Reserve auctions.
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