Private Secondary Market - The Other Side

The biggest criticism that mars Private Secondary Market is that all the activities, all the transactions happen under immense Information Asymmetry and hence these are inefficient markets. The trading takes place in a somewhat opaque market accessible to only a relatively privileged class of investors. The market makers do try to provide as much information as they have access to and are permitted to but at the end of the day what they are doing is simply increasing the velocity of transactions made under poor judgment. So there is a question mark on the reliability on the valuation in these markets:

• Efficient Market Hypothesis says that market prices fully reflect all the available information. Can we say that in secondary marketplace, there is a high level of information asymmetry and hence the stock prices in this market do not reflect a fair value? 
• The volume of transactions in these markets is too small compared the same in a public listing and any valuations derived out of these small number of transactions can be misleading.

Many private companies attract new talent by giving the equities as one of the incentives but restrain their employees to trade in the private marketplace. This makes sense as the employees will have far more knowledge of the company performance and can lead to insider trading. There is no clarity on whether insider information is allowed in the trading of private stocks. But these markets in a way encourage the employees to leave the company as the share restrictions are not binding once the employee is no more in company’s payroll and they can cash out while the company is still growing. Certain companies like Zynga try to tackle this issue by having designated trading windows during which its employees can sell their stocks. But even when employees or founders are allowed to offload their stocks, a lower equity stake might result in a lower effort from them towards the company’s success.

With the rise of these marketplaces for raising capital, the private companies are remaining private for a longer period. Most of the current players like SecondMarket and SharesPost also act as placement agent providing advisory services to the investors. These markets are slowly becoming a strong viable alternative to public offering and hence are proving to be one of the many factors for a steady decline in the number of IPOs listed in U.S. The result is that NYSE Euronext is now ready for a foreign acquisition with NASDAQ OMX group trying to avert it by offering to take over the NYSE.

The market is too young and vibrant to blame on the pertinent gaps. There is little doubt that they are indeed helping in capital generation for early growth start-ups and generating liquidity for illiquid assets. They need to ensure that more data, analytics and research reports are accessible to the market participants to introduce more transparency, increase the number of transactions and improve the fair value of these transactions. One question remains as to how average investors can be part of successful start-ups growth story before these companies go through a public exit or become too matured to have similar growths?