Over the course of a long career, I have never met any investor that consistently made money on Initial Public Offering’s. If there are such fortunate’s, most likely they occupy a corner office at some large investment-banking firm.
There is a good rule to remember. If a deal comes along like Facebook for example, guess who is going to get the greatest allocation: large institutions. It is almost a guarantee, if your broker can get you stock in an IPO, it’s because nobody else wanted it. Ignoring this point is the traditional way investors have gotten bagged.
There are ways of making money but an unconventional strategy is needed.
Initial Public Offerings are a special breed of investments. It is easy to get caught up in the emotions of a deal that is deemed to be HOT. Who makes these determinations anyway?
Be A Contrary Thinker
During recent readings, I ran across an article written at the end of 2015 on the IPO market. After commiserating over the absence of a major deal came the obligatory top 10 list of prospective IPO’s for 2016.
Of the top 10, 7 are still private companies. Two finally made their debut in 2017 and all three that currently are in public hands sell below their initial offering price.
To most people, the lesson might be, don’t listen to experts that make up Top 10 Lists. There is a bigger lesson here. In a market reaching ever-higher levels, why are 100% of the IPO’s on this list selling below their issue price?
The answer holds a big clue to successfully investing in the IPO market. In this case the answer is as simple as the economics of supply and demand.
The Demand Side Is Brimming
Thanks in no small part to the Obama Administration’s Job Act; the process of making a public offering is much simpler involving less regulation, fewer filings each with their own annoying and costly fees. This is great for everyone: especially for America’s entrepreneurs and innovators.
It does, however, change the dynamics of the market. Companies are coming to the public market much earlier with offerings of as little in some cases as $10 million. These become orphan companies from Wall Streets research perspective. No mainstream Wall Street firm is going to take the time to write a fancy detailed research report on a company with so little liquidity.
Not only are the $10 offerings creating orphans, so to are some of the larger ones of as much as $200 million. This is especially true of many development stage healthcare companies each with their own idea for curing cancer and in need of millions to build a research lab. Amid all the rubble there will be a few companies with real products or services and even some revenues to show.
The Supply Side Is Shrinking
Meanwhile the supply of Wall Street research bodies has not been exactly expanding to accommodate the increased supply of companies. Wall Street research has been a loss leader for more than 40 years. Their only real job is to attract new clients. Analysts have become like doormen at a Park Ave Coop; they open the door to new business but they aren’t much value for anything else.
Sifting Through The Rubble
Often mechanical elements of Wall Street create investment opportunities. The trick is to start the hunt for value among the IPO fallen angels: the interesting companies that are selling significantly below their offering prices between six to twelve months post offering. There are many of them to choose from and the NASD website holds a complete list organized by date and offering size.
The work just starts with seeking the biggest looser. Be careful in your search. Business conditions can change rapidly in small companies. The IPO process takes managements attention away from the business so you what to make sure this didn’t happen to your best candidate. It can be that simple.
We are all looking to find a good deal. There are many different strategies. This is just one-way to find your prize: bon chance!