Investment Banks and IPO Pricing Power

6 03 2016

Prof. Jayanth R. Varma's Financial Markets Blog

Krigman and Wendy have an interesting paper on how issuers pay for their investment banks? past mistakes. Their conclusions are based on the IPOs that came to market after the the botched Facebook IPO of 2012 in which the stock fell below the IPO price and the investment banks had to buy shares in the market to stabilize the price. IPOs after this event were underpriced by an average of 20% compared to only 11% prior to the Facebook IPO. More interestingly:

We show that the entire increase in underpricing is concentrated in the IPOs of the Facebook lead underwriters. We find no statistical difference in underpricing pre and post-Facebook for non-Facebook underwriters. We argue that investment bank loyalty to their institutional investor client based propelled the Facebook underwriters to increase underpricing to compensate for the perceived losses on Facebook.

?Loyalty to investor client? sounds very nice in a scandal…

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