The Phenomenon of IPO Underpricing in the European and U.S. Stock Markets
(Sprache: Englisch)
The Initial Public Offering (IPO) marks one of the most important events of a company. Basically, the aim is to generate maximum proceeds by selling the company s shares to investors. However, the shares that are sold seem to be underpriced as the price...
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The Initial Public Offering (IPO) marks one of the most important events of a company. Basically, the aim is to generate maximum proceeds by selling the company s shares to investors. However, the shares that are sold seem to be underpriced as the price significantly soars on the first trading day. Since the very first detection of this phenomenon in the United States in 1969, several subsequent studies have documented the existence of worldwide IPO underpricing.This study focuses on IPO Underpricing in the European and United States Stock Markets by outlining and discussing the following essential issues:
What is underpricing in the context of the IPO?
Which motivations are there and how do they impact?
Is there IPO underpricing in the markets of Europe and the United States of America?
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Text Sample:Chapter 3.2.1.1, Between Groups of Investors:
One of the most famous approaches is the Adverse-Selection model which describes that underpricing results from the asymmetric information between the different groups of investors. It assumes that one or some groups are better informed than others and, hence, are able to prevent from negative IPO pricing which lead to overpricing.
In other words: While the informed investors put in a large number of applications for underpricing issues which they recognized, the uninformed investors receive disproportionately large allocations in overpriced offerings, which is also known as the winner s curse or Groucho Marx theorem and, hence, the average initial return is negative for them. The less informed investors are cursed by getting optimum allocation in an unsuccessful IPO and therefore could lose their interest for bidding on new issues due to this adverse selection problem in the future.
In order to avoid declining interest of the uninformed investors from the IPO market because of this drawback, underpricing is on average necessary to attract them with assured returns that can be made.
Nevertheless, it is also important to mention that the winner s curse can only explain up to a certain level of average IPO underpricing, when there exists no grey market and where the fixed price pricing method is applied. Reminding from section 2.2.1.4 that, on the one hand, trading in a security is allowed before it has been issued, retail investors are able to observe the price. Hence, they can be more confident that they are not overbidding when the actual offering takes place. The winner s curse hypothesis therefore would not be applied for underpricing explanations on the German IPO market, since there officially exists such a grey market (i.e. a when-issued market). On the other hand, most of IPOs use the bookbuilding method to set an offer price. Therefore, the winner s curse theorem would not be applicable for
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underpricing explanations on IPOs which set the offer price through the bookbuilding.
3.2.1.2, Between Underwriter and Investors:
The market feedback hypothesis or rather the information revelation theory describes how underpricing results from the asymmetric information between the underwriter and the investors. During the bookbuilding process, the underwriters typically entice the informed investors to reveal truthfully their positive information presales on their allocation and pricing decision.
The defense behavior of the informed investors of not revealing positive information is explained along with the interest to keep the offer price low. If they reveal strong demand, so their fear, it would result in a higher offer price and so a lower profit. Thus, the underwriter compensates for truthful information revelation on behalf of informed investors by setting the offer price low enough to provide underpricing profit.
3.2.1.3, Between Underwriter and Issuer:
The principal agent model describes that underpricing results from the asymmetric information between the underwriter and the issuer. It is assumed that underwriter (the agent) has extensive and advantage knowledge in the industry, of the market and the network in comparison to the issuer (the principal). That is why principals hire agents to act on their behalf in order to assure a successful IPO.
Nevertheless, this principal agent model predicts conflicts of interest since the underwriter find themselves in a moral hazard situation when acting as the issuers agents in selling an IPO.
It is assumed that the agent has, therefore, less incentive to effort in marketing; so long the agent s stake in the process is smaller. Thus, due to the informational disadvantage, the principal accepts the lower offer price.
Another example for the principal agent conflict can be explained on the underwriting fees. The underwriting fees which are typically linked to the IPO proceeds provide an equilibrium in
3.2.1.2, Between Underwriter and Investors:
The market feedback hypothesis or rather the information revelation theory describes how underpricing results from the asymmetric information between the underwriter and the investors. During the bookbuilding process, the underwriters typically entice the informed investors to reveal truthfully their positive information presales on their allocation and pricing decision.
The defense behavior of the informed investors of not revealing positive information is explained along with the interest to keep the offer price low. If they reveal strong demand, so their fear, it would result in a higher offer price and so a lower profit. Thus, the underwriter compensates for truthful information revelation on behalf of informed investors by setting the offer price low enough to provide underpricing profit.
3.2.1.3, Between Underwriter and Issuer:
The principal agent model describes that underpricing results from the asymmetric information between the underwriter and the issuer. It is assumed that underwriter (the agent) has extensive and advantage knowledge in the industry, of the market and the network in comparison to the issuer (the principal). That is why principals hire agents to act on their behalf in order to assure a successful IPO.
Nevertheless, this principal agent model predicts conflicts of interest since the underwriter find themselves in a moral hazard situation when acting as the issuers agents in selling an IPO.
It is assumed that the agent has, therefore, less incentive to effort in marketing; so long the agent s stake in the process is smaller. Thus, due to the informational disadvantage, the principal accepts the lower offer price.
Another example for the principal agent conflict can be explained on the underwriting fees. The underwriting fees which are typically linked to the IPO proceeds provide an equilibrium in
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Bibliographische Angaben
- Autor: Oliver Reiche
- 2014, Erstauflage, 108 Seiten, 21 Abbildungen, Maße: 15,5 x 22 cm, Kartoniert (TB), Englisch
- Verlag: Anchor Academic Publishing
- ISBN-10: 3954892952
- ISBN-13: 9783954892952
Sprache:
Englisch
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