Here's why IPOs look attractive and constantly lure investors

IPOs are the talk of the town again with close to 15 IPOs completed and upcoming so far in the calendar year 2021. Even in the second half-year 2020, many companies came up with their IPOs and we saw huge oversubscription of IPOs.

In the last one year i.e. from 1st April 2020, there have been 20 IPOs and the average oversubscription across these 20 IPOs is 56 times. Within this, we have IPO of Mrs. Bectors Food which got oversubscribed by 198 times that was the highest and IRFC was the lowest with 1.16 times. The average absolute return from these IPOs is 64 percent, this short-term return could be one of the major factors luring existing and first-time investors to look at IPOs.

Many investors are interested to invest in IPOs after looking at the listing of companies right from Happiest Minds Technologies to Burger King to Indigo Paints. Companies come up with their IPOs to raise capital for their long-term plans based on their business prospects. The raised capital can be deployed for aggressive acquisition efforts or massive expansion plans, depending on the opportunities the company visualizes at its end.

Since most of the IPOs come during the surging market and promoters aim to limit dilution, the valuations are generally at a premium. Also, the mindset and willingness of investors to invest during the rising market are high as they constantly witness an increase in their equity portfolio value day by day. Also, they have seen the listing gains which was an average of 45 percent from the 20 IPOs in the last one year.

One of the biggest risks of investing in an IPO is Valuation Risk. The possibility of you investing at higher valuations during IPO is quite high. Another risk is related to lack of track record or having limited information about the past performance of these IPO companies. If we look at IPOs from 2015 to 2020, there are 108 such companies and the average CAGR from these 108 companies is 8 percent.

The average oversubscription across these companies was 34 times as well. There are 53 companies that have generated positive CAGR (Avg. CAGR of +36 percent), whereas 55 companies have given negative returns (Avg. CAGR of -19 percent) as of March 14, 2021. Hence, it is important to decide how much you are willing to pay for the anticipated growth of these listing companies.

Looking at IPOs as short-term investing based on listing gains, which is a topic that is often discussed, is also wrong as these companies will invest the raised capital over a period and will take time to generate returns for their investors.

On the other side, you have the entire stock market where exist opportunities to invest and grow wealth over long a period. There is no denial that a lot of listed companies too will be expensive from a valuation perspective at current market levels, but they can be evaluated based on the company’s past performance, growth potential and sector prospects. Also, if the listing company is good; you can invest in the future as well after you see the growth prospects and opportunities in it.

Investing in the stock market and IPO is like investing in the known (already listed stocks) and the unknown (IPO). Choose your investment option appropriately to get the best out of your equity investment.