Is the IPO trend fading away?

Tue, 23 Dec Pre-Open

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Fund raising through Initial public offer (IPO) in the country witnessed a dwindling trend this year. Mostly, IPO booms happen during the raging bull markets. However, this was not the case this year. Money rose from the equity markets during 2014 through the IPO route were an appalling one. During the current year the funds raised through IPO were Rs.11.3 bn vs Rs.16.3 bn in the previous year. So is this year an aberration?

An article on Mint states an interesting fact in this regard. While the quantum of funds raised during the year was abysmal, the number of IPOs at 43 was higher in 2014, compared with the two previous years.

Among the few reasons for this decline, one is SEBI's activism. One must note here that the regulator has become more watchful and has started raising various inquires during the approval process in order to safeguard the small investors. The regulatory check seems to be working quite well.

The decline in funds raised through IPOs should be seen along with huge jump in Qualified Institutional placements (QIPs) this year. As per a financial daily, companies have raised Rs 310 bn through QIPs so far this year, nearly four times more than the last year. We are not experts to comment on the trend of IPOs going forward. However, we will not be surprised to see a slew of IPOs next year as it may give private equity investors a good opportunity to make a profitable exit if improved market sentiments support better valuations.

However, we at Equitymaster have always recommended IPOs cautiously. Before we explain our rationale behind this, let's ask you a simple question - Why do IPOs generally come during the Bull market and not during the Bear Markets?

During the Bull market the market sentiments improve and this makes investors irrational. The opposite is true during the bear run. Thus during bear market fear is the dominating factor while during the bull markets investors tend to become greedy. During this time, so far, the investors seem to have behaved rationally. However, will they continue to be reasonable while investing in case the IPO trend catches on?

We don't know that yet. However, what we believe is that IPO investments could be one of the riskiest classes of equity investments that a retail investor can make. This is because one is betting on a company which is still in the testing waters. Plus we have very limited financial information and no access to management meetings. Keeping these aspects into consideration, we recommend investors to invest in IPOs only when the company is fundamentally strong and stock is offered at attractive valuations.