Behind the hype of Initial Public Offerings

When a privately held corporation needs to raise additional capital, it can either take on debt or sell partial ownership. If the corporation chooses to sell ownership to the public, it engages in an IPO – Initial Public Offering in the stock market - the first time a stock is offered for sale to the general population.

Despite the constant battle and bickering between fundamental, technical and hybrid analysts tend to forget that market sentiment tends to be behavioral or emotion-driven. News half-way around the world could potentially affect a stock price of a mining company. PR and Press releases become tools to “manage these sentiments” when quarterly or even year-end performance reports are to be released, IPOs are no different.

“..the typical IPO instead presents the greatest opportunity to the insiders who are selling, because the associated hype enables them to cash out at inflated prices.” – Jason Zweig

Open Secret?

•Insiders’ Private Opportunity - Before going public, possible insider private investment may have already occurred

•It’s Probably Overpriced - Underwriting is a process (needed in IPOs) where the investment banks purchase securities from an issuer and sell them at a higher price to the general public.

•Imaginary Profits Only - Most IPOs are sold under favorable market conditions, but not necessarily in terms of the buyer.

Understand the  risks

•IPOs are speculative since it is difficult to really know how the stock will behave due to lack of trading history(IPOs price typically rise in the first few days or weeks before it either goes up further, stabilizes or go below the offer price, but no one can really tell)

•Stags in waiting – staggingis when an individual or group buys into an IPO with the intent of selling right away, hoping to take advantage of the rising stock price

•Be fearful when others are greedy - much-anticipated IPOs often attract so much interest from the public that the shares get driven to unreasonably high levels

Do your homework

Investing is not a walk in the park, if you don’t do some due diligence then you are simply gambling. Do your research and ask questions:

1. How can this investment help you meet your overall financial goals?

2. What is the purpose of raising capital – debt payments, expansion?

3. How do they make money? What business model do they use? Who is the management?

4. What are the growth and earnings potential? SWOT Analysis?

Potential Returns

As I have written previously, the Philippines is a potential safe haven for investments as our stock market has performed reasonably well compared to the rest of the world. And not all IPOs are the same or hyped, the 2015 IPOs (3 companies) had returned an average of 55% as of June 2016.

Investing in new-to-market securities is like investing in any security – there are no guarantees even if you are a well-informed investor.

“The market is a pendulum that forever swings between unsustainable optimism (which makes stocks too expensive) and unjustified pessimism (which makes them too cheap). The Intelligent Investor is a realist who sells to optimists and buys from pessimists.” ? Jason Zweig, The Intelligent Investor

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The writer is an RFP® - registered financial planner of RFP PH, Licensed Real Estate Broker and Director of CERTA, Inc., a family estate planning and investment advisory firm. To know more, please visit www.certa.ph