Pursuing Value Through Liquidity in IPOs: Underpricing, Share Retention, Lockup, and Trading Volume Relationships

We argue that in an initial public offering (IPO), pre-IPO owners make decisions regarding underpricing, share retention, and share lockup simultaneously and optimally to maximize aftermarket liquidity. We predict that underpricing fosters higher trading volume in both the short run and the long run. Also, liquidity is negatively related to the proportion of shares retained by pre-IPO owners, ceteris paribus, so IPO underpricing should be positively related to the proportion of shares retained, as an offset. We document evidence consistent with these predictions. In addition, we find that, for IPOs with a lockup restriction, underpricing is more substantial and the positive relation between share retention and underpricing is much stronger. We also find that the relationship between underpricing and trading volume is stronger for IPOs with lockup. IPOs with lockup have higher trading volume, and a significant portion of this difference is associated with the effect of underpricing.

[1]  Jay R. Ritter,et al.  The "Hot Issue" Market of 1980 , 1984 .

[2]  Michel A. Habib,et al.  Underpricing and Entrepreneurial Wealth Losses in Ipos:Theory and Evidence , 2001 .

[3]  Alexander W. Butler,et al.  Stock Market Liquidity and the Cost of Issuing Equity , 2005, Journal of Financial and Quantitative Analysis.

[4]  The underpricing of initial public offerings: A theoretical and empirical reconsideration of the adverse selection hypothesis , 1993 .

[5]  K. Hanley,et al.  The underpricing of initial public offerings and the partial adjustment phenomenon , 1993 .

[6]  Tim Loughran,et al.  Why Don't Issuers Get Upset About Leaving Money on the Table in Ipos? , 2000 .

[7]  Robert Heinkel,et al.  Signaling and the Valuation of Unseasoned New Issues , 1982 .

[8]  Y. Amihud,et al.  Asset pricing and the bid-ask spread , 1986 .

[9]  The Marketing Role of Ipos: Evidence from Internet Stocks , 2003 .

[10]  Kevin F. Rock.  Why new issues are underpriced , 1986 .

[11]  Roni Michaely,et al.  When the Underwriter Is the Market Maker: An Examination of Trading in the IPO Aftermarket , 2000 .

[12]  Kent L. Womack,et al.  Strategic IPO Underpricing, Information Momentum, and Lockup Expiration Selling , 2001 .

[13]  Gerald R. Faulhaber,et al.  Signalling by underpricing in the IPO market , 1989 .

[14]  James S. Ang,et al.  Concealing and confounding adverse signals: insider wealth-maximizing behavior in the IPO process , 2003 .

[15]  James R. Booth,et al.  Ownership dispersion, costly information, and IPO underpricing , 1996 .

[16]  Mark Grinblatt,et al.  Signalling and the Pricing of New Issues , 1989 .

[17]  Tim Loughran,et al.  Why Has IPO Underpricing Changed Over Time? , 2002 .

[18]  Tim Loughran,et al.  Uniformly Least Powerful Tests of Market Efficiency , 1999 .

[19]  P. Spindt,et al.  How investment bankers determine the offer price and allocation of new issues , 1989 .

[20]  Roger G. Ibbotson,et al.  "Hot Issue" Markets , 1975 .

[21]  M. Pagano,et al.  IPO underpricing and after-market liquidity , 2006 .

[22]  Thomas J. Chemmanur.  The Pricing of Initial Public Offerings: A Dynamic Model with Information Production , 1993 .

[23]  Ivo Welch,et al.  Seasoned Offerings, Imitation Costs, and the Underpricing of Initial Public Offerings , 1989 .

[24]  Kent L. Womack,et al.  The Persistence of IPO Mispricing and the Predictive Power of Flipping , 1999 .

[25]  Randolph P. Beatty,et al.  INVESTMENT BANKING, REPUTATION, AND THE UNDERPRICING OF INITIAL PUBLIC OFFERINGS* , 1986 .

[26]  Paul A. Gompers,et al.  The Role of Lockups in Initial Public Offerings , 2003 .

[27]  Shane A. Corwin,et al.  The Development of Secondary Market Liquidity for Nyse-Listed Ipos , 2002 .

[28]  Steven Manaster,et al.  Initial Public Offerings and Underwriter Reputation , 1990 .

[29]  William A. Reese.  IPO Underpricing, Trading Volume, and Investor Interest , 1998 .

[30]  Laura Casares Field,et al.  The Expiration of IPO Share Lockups , 2000 .

[31]  Michelle Lowry,et al.  IPO Market Cycles: Bubbles or Sequential Learning? , 2000 .

[32]  Bradford D. Jordan,et al.  Partial Adjustment to Public Information and IPO Underpricing , 2002, Journal of Financial and Quantitative Analysis.

[33]  Roger G. Ibbotson,et al.  Price performance of common stock new issues , 1975 .

[34]  Ivo Welch,et al.  A Review of IPO Activity, Pricing and Allocations , 2002 .