The Birthing of a Market

by Jay Gould on April 12, 2010

Writing about the social media revolution is so exciting because its changing the world, and that change is happening at a remarkably fast pace.  Another sea change occurring right before our eyes is the emergence of a secondary market for the shares in the companies driving the revolution.  Like Michael Milken at Drexel helped the junk bond market emerge as a rapidly scaling asset class, so to are companies like Second Market and Sharespost helping to lead the liquidity charge in the market for privately held shares. SecondShares is pleased about the role we’re playing in the ecosystem by writing research on social media companies  because thoughtful and readily available information  is another piece of the puzzle needed to increase liquidity.  It’s easy to highlight the pace at which this market is growing by simply looking at the growth in SecondMarket’s transaction volume this year (in millions of dollars):

That growth is beyond impressive, and it should warm the heart of every employee, Founder and VC that holds shares in meaningful private companies because there is an emerging third option to monetizing their shares.   Where once monetization largely occurred through IPOs and acquisitions, increasingly, shareholders can sell their shares in the emerging market for private shares.   In addition to total volume, Second Market releases data on the volume of transaction by company.  Not surprisingly, Facebook is the dominant volume leader, averaging 42% of the market the last 3 month (scale .6 =60%).

Such heavy concentration is emblematic of the embryonic stage of development of this market.   NYSE daily volume leaders  generally comprise around 2% of total market volume on a given day.

What SecondMarket doesn’t release much information on is the buyers or sellers.  That said, we do have a sense that the increase in sellers is being driven by the participation of VC’s, who are increasingly seeing the secondary market as a liquidity option.  It turns out, that while the IPO market kind of shut, and the acquisition market slowed, the limited partners of the VC’s still want to get cash returns, and the secondary market is enabling that.  As far as the buyers, while second fund pioneers like Industry Ventures remain important players, new buyers are entering the market, including both institutions and individuals (who have to be accredited investors).  If you’re playing in this ecosystem let us know.

As the secondary market grows and liquidity increases, volumes will not only increase exponentially, but volume share will dissipate dramatically.  By the end of 2010, we believe volumes will surpass $200mm per month and Facebook will have less than 10% of volume share.  While $200 million in a month kind of sounds like a lot, Google trades that much volume every 40 minutes of every hour of every trading day.  Point being, buckle your seat belt, its going to be quite a ride for anybody playing in this marketplace.

{ 1 comment… read it below or add one }

1 Jason Blum April 14, 2010 at 5:29 pm

Good article. It might be important to note the fact that Sharespost is not a registered Broker/Dealer, this seems like an important difference compared to SecondMarket. Also, in order for their to be an active market, there needs to be market makers with inventory to keep the market liquid. Neither Secondmarket nor Sharespost has a mechanism to capture inventory efficiently. It would also help if there were more high quality companies to invest in, there are not that many good start ups these days. Mark Andreesen has said only 10-15 companies get created every year that will be winners (there are hundreds of VC’s competing for those deals). Currently, the majority of shares in a hot private company are closely held in the top 10% of employees and angels. Most won’t sell unless it’s a 7-10 yr old company(and probably not doing so great). The other issue is the 500 shareholder rule. Facebook has already taken steps to manage this issue by curbing secondary trades by current and ex-employees. Managing a cap table of a mature private company is already difficult, adding unregulated trading makes things worse. CEO/CFO’s tend to be very sensitive to this issue. The secondary market won’t develop until there is some regulatory changes and better transparency.

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