I found one of the best definitions of IPOs in this SmartMoney column: the author says that IPO stands for “Its Probably Overpriced” rather than “Initial Public Offering”. The trouble with IPOs is that they are lousy investments. I am now reading Contrarian Investment Strategies by David Dremen and he talks about a study (by Prof. J. Ritter and Tim Loughran) of IPO returns:
The study followed the returns of 4,773 IPOs traded on the New York Stock Exchange, the AMEX and Nasdaq between 1970 and 1990. The average return for IPOs was 3% annually compared to 11.3% for the S&P 500.
But, there is more bad news:
The median return for these almost 5,000 initial offerings was down 39%. That’s right. If you couldn’t get that handful of red-hot IPOs that doubled or even tripled on the first trade – and nobody but the largest money managers, mutual funds, or other major investors could – then you’d lose a good chunk of your original investment.
Tim Hortons (TSX: THI), which went IPO with much fanfare just a few months back, is now trading at $29 after changing hands between $33 and $36 on its opening day of trading. The VoIP provider Vonage (NYSE: VG) went public last week at an offer price of $17. The stock has been in a free fall ever since and closed trading today at $12. Vonage, which operates in a brutally competitive market also managed to alienate its customers by offering them shares before the IPO only to watch it plummet after its debut. Overpriced is a fair description of these investments.