This research examines the pricing of initial public offerings (IPOs). As addressed in this research, IPOs refers to equity stocks issues when a corporation first initiates public trading of its shares. Initial public offers of corporate debt are not included in this definition.
The thesis explored in this research is that IPOs frequently are incorrectly priced intentionally either higher or lower that the sustainable market value of the equity shares. Included in this exploration are considerations of the models used to evaluate IPO pricing, the evidence of incorrect IPO pricing, any evidence that specific investment banks or underwriters are linked consistently with incorrect IPO pricing, the effects of institutional investing on IPOs, and the criteria for success of an IPO. Background information on the use of IPOs and recent levels of IPO activity is provided in the following discussion.
Background Information on IPOs and Recent Levels of IPO Activity
Investors are interested in IPOs because they "offer the prospect of swift gains: a doubling of the share price on the first day of trading is not uncommon" ("American IPOs" 83). Over time, however, IPOs generally tend to under perform in relation to the market as a whole.
Through mid-November, 469 IPOs had been floated in stock markets in the United States ("American IPOs" 83). These IPOs generated $24.2 billion for the issuing corporations.
In the wake of the seven-percent drop in the Dow-Jones stock index in October 1997, small investors, seeking quick returns as the bull market appeared to be imperiled, began turning to IPOs in greater numbers ("American IPOs" 83). This strategy is not risk-free. While, as stated above, it is not uncommon for the market value of an IPO to double during the first day of trading, that pattern is not a given. The market price for average IPOs increase in the range of 15-to-20 percent over the initial two weeks of trading activ...