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Andre Maurois

Investment Dictionary


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Initial Public Offering (IPO)

 

An initial public offering (IPO) is a first introduce of company’s shares to the stock market. However, during initial public offering shares are sold not on the stock exchange but on network of clients by the firm that organizes the IPO. Only later those shares are traded on the stock exchange.

 

For the investors IPO is an opportunity to acquire some new in the market shares that might be a promising investment. The problem is that if it is a really good investment for a low price (which is quiet rear) the main part of the shares goes to the institutional investors, and for the retail only residue remains. Also you have to allocate much more money until the process will end than you will get shares because of oversubscription.

 

If there will be no high oversubscription (which may be many times over) you may get all the shares you wanted if IPO will succeed at all, but that will mean a demand for the shares was very low and possibly you have overestimated a value of those shares.

 

Most investors or speculators participate in IPOs only because they try to sell shares during first trading days on the stock exchange. Most of the times, price on beginning of the trading really jumps up. Such short-term IPO investing is called flipping, and it is the reason why share allocators during IPO always prefer institutional but not retail (those that are flipping) investors. IPO organizers don’t like stock flippers because they cost a lot for them. During IPO usually a greenshoe is settled which has to balance an optimum price of the share in first days of trading on exchange. An optimum price is a nice increase in the first days from the subscription price (10%-15%). So flipping creates more expenses for the greenshoe operations.

 

There were many researches showing that in a longer term stocks bought during IPO performs worse than regular ivestment in stocks. Activity of IPOs increases when market valuations and confidence are high. If numbers of IPOs hit the records, it may by some sign of market overheating.

 

For the company, IPO is an opportunity to raise additional capital from the markets. It is not very cheap method to attract some capital, but for big companies it may be a necessary way to keep growth. 

 






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