Last week, the much-anticipated public listing of Life Insurance Corporation of India (LIC) took place. The excitement that greeted the launch of India’s largest initial public offering (IPO) was strikingly absent at the time of listing.
Retail investors, particularly policyholders, were enthusiastic about the possibilities of LIC stock, their most familiar personal financial partner.
None of the optimism saved the day for LIC’s shares, which opened at a 9 percent discount and only trended lower throughout the day.
The ordinary investor had not anticipated such a strong start. In only two months, LIC altered its IPO price and almost half its value. Many analysts believe that this reduced the insurer’s value to a realistic level, allowing for possible listing profits.
Although IPOs are aggressively promoted to retail and institutional investors, recent experience with new-age enterprises has shown that IPO pricing does not necessarily allow for long-term returns.
It’s not just about the price; market mood plays a role as well. The enthusiasm around previous e-commerce IPOs has also shown that quick listing benefits do not always imply long-term advantages.
According to Prime Database, FY 2020-21 was the greatest year for IPOs in India, with 76 firms going public and raising over Rs 1.3 lakh crore. The buzz was appealing to ordinary investors because of the marketing rather than any significant financial value to be garnered from the IPOs. Here’s why individual investors should stay away from IPOs and devote their time and focus to the secondary market once the company has been listed.
IPO Pricing Is A Mystery
A stock’s initial public offering pricing is determined in conjunction with one or more investment banks. These investment banks work for and are compensated by the business that is going public. The offer price should ideally be based on the company’s value, which is determined by predicting the company’s future financial prospects. Individual investors who are uninformed of the company’s future goals will have a difficult time determining if this value is realistic and correct.
“I usually advise customers to avoid IPOs since the secondary market is a far more effective option for long-term investors to build wealth,” said Kavitha Menon, a Certified Financial Planner in Mumbai.
“In IPOs, allocation is unpredictable, and even if you do obtain an allotment, the quantity of shares is often small.” Plus, although some IPOs are profitable, others are expensive, and individual investors don’t earn much money in this method on the whole.”
The method of determining the final IPO price is not disclosed to investors, who are left in the dark. Why presume that IPO price is correct if you can’t analyse the foundation for it?
External Factors Like Grey Market And Market Mood Matter
Shares are accessible via private placement even before the public offering is ready for subscription. A ‘grey market,’ or active trading based on a stock’s listing prospects, exists based on the over-the-counter price of these shares. Grey market pricing are just suggestive, but they do indicate the direction of IPO subscription demand. If demand is strong, the grey market pricing is likely to trade at a premium, and the listing will go off without a hitch.
Even yet, the grey market may confuse investors, and if market sentiment goes negative before the IPO, the premium might be lost. This is the polar opposite of what occurred when Zomato Inc went public, with a 52 percent premium to its offer price. Unfortunately, when LIC went public, the grey market premium plummeted, and the stock was listed at a discount.
Can Retail Investors Track This Sentiment Effectively?
“The market atmosphere is extremely crucial; many individuals get carried away by greed to earn rapid profits in a bull market,” said an Ahemdabad-based broker and mutual fund distributor. “It used to take months for a stock to list once the offer was made, but today it’s simply a question of putting money in for 15 days, which isn’t a long time.” If there are allotment and listing profits, an investor will get rapid pleasure, which is exactly what they want.”
“Chasing momentum in stock markets is dangerous,” said Anup Bhaiya, founder of Money Honey Financial Services in Mumbai. The majority of individual investors have speculative inclinations, seeking to make rapid money by listing during a bull market. However, if mood deteriorates, enterprises with weak fundamentals or those seeking high valuations are more likely to list below the IPO price and thereafter fall.”
Information Is Limited
Even if you read the IPO prospectus in its entirety, you will find little information on the firm since most brokerages and analysts have yet to begin in-depth coverage of the company’s operations. The majority of buy or sell recommendations for the IPO are based on the facts provided in the prospectus rather than on on-the-ground research.
“Promoters or current investors who know all there is to know about the firm are giving their equity in the IPO,” Bhaiya added. And a layperson is attempting to profit from the IPO. In most situations, the odds are obviously stacked against ordinary investors.”
Given how much there is left to learn about the company’s operations, rushing in to subscribe to the public offering may be counterproductive. Furthermore, many recent IPOs served as a vehicle for older investors to exit their stakes rather than generating funds for the company’s development and expansion.
“When it comes to offering promoters and early-stage investors an exit, IPO pricing has very little value,” Menon added. “If money isn’t being generated to produce new value in the firm, why should you pay a higher price?” Companies do not have to be profitable before going public, but investing in a loss-making business with the promise of unrivalled execution capabilities is a major risk.”
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Secondary Market Investment
“There is a misconception among retail investors that primary market pricing is the lowest since it is firsthand, but this is not the case,” the Ahemedabad-based broker added.
Investors may always wait for the firm to be listed and give it 6-9 months, by which time 2-3 quarters of results would have been released and analysts would have begun thorough coverage. Investors will have access to more information on the company’s financial health, as well as how management takes crucial choices and communicates with shareholders.
According to experts, insights develop through time and are critical in determining the company’s future worth, on which you may choose to invest for the long run.
If you’re investing in IPOs because of peer pressure or a fear of missing out, you should be aware of the dangers and the reality that not every IPO will earn you money. Furthermore, following listing, the shares are freely accessible to purchase and sell on the secondary market. Why don’t you simply wait for it?