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Skip to main content. Search SpringerLink Search. Download PDF. Abstract The underpricing of initial public offerings IPO is a well-documented fact of empirical equity market research. Introduction The underpricing of initial public offerings IPO is a well-documented fact of empirical equity market research. Literature review Recent reviews have summarized the explanations of the financial economics literature on the IPO underpricing phenomenon Ritter and Welch ; Ritter ; Ljungqvist ; Derrien Experimental design In initial public offerings, information on the prospective cash flows and on the intended exchange listing of the securities in the aftermarket is distributed among potential investors.
Trading and cash flows of issued securities in the aftermarket In this study, our aftermarket is implemented via the experimental asset market design of Smith et al. Data and results Experimental Setup Subjects were undergraduate students of the universities at Magdeburg and Bonn. Simulated distribution of asks below IPO price round 1 left; round 2 right.
Full size image. Table 4 Bubble measures Full size table. Summary In our laboratory study, we have investigated the behavior of prices in initial public offerings and the aftermarket. Notes 1. Subjects could unanimously vote for early termination, however. The authors also find that newly listed REITs provided significant excess dividend returns over the post-listing period. Research has shown periods of underpricing are often replaced with periods of overpricing suggesting that the pattern of behavior in REIT markets is substantially different.
Dimovski, B. Report bugs here. Please share your general feedback. You can join in the discussion by joining the community or logging in here. You can also find out more about Emerald Engage. Visit emeraldpublishing. Its purpose is to raise capital for the future growth of the company.
Determining the offering price requires a consideration of many factors. Quantitative factors are considered first. Those are the numbers, real and projected, on cash flow. Nevertheless, there are two opposing goals at play. The company's executives and early investors want to price the shares as high as possible in order to raise the most capital and reward themselves most lavishly.
The investment bankers who are advising them may hope to keep the price low in order to sell as many shares as possible since higher volume means higher trading fees for them. The process mixes facts, projections, and comparables:. In theory, any IPO that increases in price on its first day of trading was underpriced, whether it was deliberate or accidental. The shares may have been deliberately underpriced to boost demand. Or, the IPO underwriters may have underestimated investor demand.
Overpricing is much worse than underpricing. A stock that closes its first day below its IPO price will be labeled a failure. An IPO can be underpriced if its sponsors are genuinely uncertain about the reception that the stock will receive. After all, in the worst case, the stock price will immediately climb to the price that investors consider that it's worth. Investors willing to take a risk on a new issue are rewarded. The company's executives are pleased.
That is considerably better than the company's stock price falling on its first day and its IPO being blasted as a failure. Whether it was underpriced or not, once the IPO debuts the company becomes a publicly traded entity owned by its shareholders.
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