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It is not just the tech sector where IPO investors risk being bitten

With 2019’s bout of IPO fever showing little sign of abating, we highlight a research paper that reveals how badly long-term investors are likely to have fared after buying into a business the day it floated

29/11/2019

Juan Torres Rodriguez

Juan Torres Rodriguez

Research Analyst, Equity Value

Arguably the most hotly anticipated initial public offering (IPO) of the year – that of a small percentage of Saudi Arabian oil giant Saudi Aramco – looks increasingly likely to be a very local affair.

Still, even if the part-floatation had been more widely available to investors outside of the Middle East, it seems unlikely this would have been the time we overcame our long-running unease about IPOs, here on The Value Perspective.

In recent weeks, the opportunity for foreign investors to participate in the Aramco IPO – which will see three billion shares or 1.5% of the business offered at a price that would value it at up to $1.7 trillion (£1.3 trillion) – has shrunk to the point of being negligible.

Only this week, for example, it was announced that Aramco’s management had cancelled marketing roadshows due to take place in Europe, the US and Asia.

Furthermore, according to the IPO prospectus, shares in Aramco will only be for sale in Saudi riyals while dividends will only be payable to public investors in that currency – this despite the fact the Saudi government receives its own dividend from the company in US dollars.

Finally, despite all the talk of Aramco also floating on a foreign stock exchange, it is now only for sale on Saudi Arabia’s own Tadawul market.

We take a cautious view on IPOs

Only the most committed of investors outside the Middle East, then, are likely to be applying for shares – and when it comes to IPOs, here on The Value Perspective, committed we are not.

Regular visitors will be aware that, only in the last few weeks, we have expressed our wariness of such events in the context of the pulled WeWork IPO and, more generally, how irrational many investors can be when a company comes to market.

Now comes an interesting piece of research from US-based asset manager Verdad, which analyses the available data on the 3,700-odd IPOs that have taken place in the US since the late 1980s.

One of the findings was that, after three years, the median IPO had lost 31% of its value from its day-one close price while, after five years, it was down 41%.

More astonishing still is how often investors lost a lot more than that.

As the following table shows, after five years, IPO participants who bought and held onto their investments would have lost around half of their wealth half of the time and three-quarters or more of their wealth between a quarter and a third of the time.

As you can also see, this is not a sector-specific phenomenon but holds true across a wide variety of industries.

IPO Five-year Buy-and-Hold Price Return Base Rates by Sector

IPO5yrbuyandhold.png

Source: Capital IQ, all IPOs since the late 1980s with transaction data available. From day-one close price to five-year hold or delisting

“By far the easiest way to lose nearly all of your money is IPOs,” the Verdad research concludes, “and the more exciting the IPO, the more catastrophic the base rates. For those watching the recent near-death experience of WeWork … or the slew of disappointing results from high-growth, high-expectation IPOs like BlueApron, you would be right to ask how extraordinary these ‘shockingly’ bad outcomes really are.”

The views and opinions contained herein are those of the Value perspective, and may not necessarily represent views expressed or reflected in other communications, strategies or funds.

Reference to stocks are for illustrative purposes only, and not a recommendation to buy or sell any financial instrument or to adopt any investment strategy. 

Author

Juan Torres Rodriguez

Juan Torres Rodriguez

Research Analyst, Equity Value

I joined Schroders in January 2017 as a member of the Global Value Investment team. Prior to joining Schroders I worked for the Global Emerging Markets value and income funds at Pictet Asset Management with responsibility over different sectors, among those Consumer, Telecoms and Utilities. Before joining Pictet I was a member of the Customs Solution Group at HOLT Credit Suisse.  

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