Rational IPO Waves

Abstract

We argue that the number of firms going public changes over time in response to time variation in market conditions. We develop a model of optimal initial public offering (IPO) timing in which IPO waves are caused by declines in expected market return, increases in expected aggregate profitability, or increases in prior uncertainty about the average future profitability of IPOs. We test and find support for the model's empirical predictions. For example, we find that IPO waves tend to be preceded by high market returns and followed by low market returns. Copyright 2005 by The American Finance Association.

Firm-specific risk and IPO market cycles

“…Pástor and Veronesi (2005) show that IPO timing is positively related to firm expected returns. They rely on Vuolteenaho (2002), who shows that expected return-news series are predominantly driven by systematic, market-wide components that are highly correlated across firms, while cash-flow information, which is considered firm-specific, can largely be diversified away in aggregate portfolios.…”

“…Diavatopoulos et al (2008) describe the implied volatility as 'the market's assessment of future risk and is likely a superior measure to historical realized volatility'. Schwert (2002), Pástor and Veronesi (2005) and Pástor et al (2009) note the important role of market conditions on the IPO pricing process. Chui's (2005) results underscore the effect of investor sentiment towards risk on both initial returns and the number of high-risk IPOs.…”

“…At the market level, Pástor and Veronesi (2005) find that the issuing firm's conditions, which affect its decision to go public, depend considerably on market conditions. Firms choose to go public in periods of overall favourable market conditions because they expect to benefit from high market valuation of their issued stocks during that period, inducing IPO waves.…”

“…They note that the information obtained during the registration period is a determinant of both IPO pricing and timing: more positive information induces higher initial returns and more firms going public soon thereafter. To provide an analytical framework for IPO waves, Pástor and Veronesi (2005, p. 1713) develop a model of optimal IPO timing in which IPO waves are caused by expected market return decline, expected aggregate profitability increase or increases in prior uncertainty about the IPO average future profitability. Their empirical evidence supports these three channels for the presence of IPO waves.…”

Pricing Determinants of selected Fixed Price IPOs issued in India

“…Cassia (2004) [4] examined that the IPO's floated through fixed price mechanism were highly underpriced than those issued with the book building mechanism. Pastor and Veronesi (2005) [5] evaluated that the over valuation of the IPOs led to an elevation in the IPO size. Adams et al (2008) [6] explored that the IPOs with larger size are more underpriced as compared to those with smaller issue size.…”