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Empirical Regularity of IPO in

Bangladesh

By
Mahmood Osman Imam Ph.D.
Professor and Former Chairman
Department of Finance
University of Dhaka
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IPO Anomalies

Short-run Price Behavior Underpricing


the high initial returns investors earn between subscription
and the first trading day in the aftermarket known as the
"underpricing" phenomenon.

Hot Issue Wave

the temporal variations in the magnitude of initial


returns and in IPO volume known as the "hot
issue" market phenomenon.

Long-run Price Performance

Poor aftermarket stock


price performance of IPOs in the long-run window
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IPO Anomalies

Short-run Price Behavior Underpricing


Initial Return:
Initial Return without or with market-adjusted
Raw return or Abnormal Return
First Day Return -- Return calculated from the offer price
to first-day aftermarket trading closing price
(debut day price).
Initial Return on equilibrium price day Return calculated
from the offer price to the equilibrium price
adjustment event day deducted by market
return for the period

Hot Issue Wave temporal variations of IPO return and


volume

Long-run Price Performance IPO Underperformance in the


long period of three to five year vis--vis market and matched
portfolio (by sized and industry)of seasoned firm
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Even Study Methodology used documenting


Underpricing phenomenon associated with IPO

A traditional event study performance analysis was


conducted over the post IPO (also referred to as the
seasoning) period. The market- adjusted return method is
commonly employed to obtain the abnormal for each IPO
over s trading day, as follows:

ar=
it
rit rmt
where is the abnormal return for issue i in day t , is the raw
return on issue i in the event day t, and is the corresponding
return on the market index during the same time period.
The next step is to compute daily average abnormal returns
over the i = 1....n on day s as follows :
n

ARs = 1/nARis
i=1

Findings of Underpricing and Asymmetric Information


associated with IPO

Non-financial firms that go public during the period of 1991


to 2007 have been underpriced on an average of 92.54%
(first day initial return) and 84.29% on equilibrium day (Event
Day15).
Abnormal Holding period Return (Non-Financial)
94.00
92.54

Abnormal returns

92.00
90.00
88.00
86.00

84.46

84.29

84.00

82.83

82.00

83.03
81.90

80.00
78.00
76.00
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15 (EQ Day)

16
17
Event Trading day

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Findings of Underpricing of IPO

The degree of underpricing on the initial day for non financial


sector was found to be 92.54% The equilibrium price
adjustment day was found to be 15th day in case of non
financial sector.

The degree of underpricing on equilibrium price adjustment


was 84.29%.

It was observed in our study that the average under pricing


was highest and the standard deviation was also highest in
1996 (218.21%), an outcome from the hot issue period.

Findings of determinants of underpricing

Controlling for industry effects and incorporating some well


known proxies for, reputation, information signaling, uncertainty,
size and excess demand aftermarket standard deviation,
oversubscription and free float were found to be the
significant factors explaining underpricing.

There is existence of initial overshooting behavior in our IPO


market.

Initial overshooting turned out to be around 9 percentages on


an average.

It is observed that both oversubscription and green field dummy


variables have significant impact on underpricing and as the
excess demand was found to be positive in our study we can
conclude that overshooting behavior exist in our market.
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The use of

Methodology of documenting
Long-run Price Performance of IPO

The average abnormal return for month t following the IPO


is:
nt
1
t =
nt i=1

arit

AR

where is the number of issues present in the cross section


in postIPO month t.

The average cumulative abnormal return metric [Dimson and


Marsh (1986)] from the month s to month T is the crosssectional average of the individual cumulative compounded
abnormal return
1
s, T =
n

CAR

i =1

(1 + arit ) 1]
i=s

The use of CARs , T implicitly reweight our event portfolio


every month
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Methodology of documenting
Long-run Price Performance of IPO

Since such a portfolio strategy is difficult to implement, we


also analyze buyand-hold returns alternatively. The buyand- hold return for firm is defined as:
min( T ,delist )

RiT

t =1

(1 + rit ) 1

where is the earlier of its delisting date or the end of the five
year window. For firms that went public near the end of our
sample period, the delisting date is no later than April, 2011,
since the return interval is truncated on this date.

Following Ritter (1991) and Loughran and Ritter (1995), we


also compute wealth relative as a performance measure,
which can be defined as:
WR =

1 + averge 5-year buy- and-hold return of IPO


1 + averge 5-year buy-and-hold return of market

1 n
RiT
n i =1
=
1 n
1 + RMT
n M =1
1+

Findings of Lon-run Underperformance of IPO


Non-financial firms that go public during the period of 1991 to
2007 have underperformed vis-a- vis market benchmark.
Market Adusted Returns, during the first five years trading
for the 99 IPOs in 1991-2007
40.0

% Average CAR or Excess HP return

30.0
20.0
10.0
0.0
-10.0
-20.0
-30.0
-40.0
-50.0
-60.0
0

10

20

30

40

50

60

Month of Seasoning
RawHP Return

Cumulative Mkt Adjusted Return

Mkt. Adjusted HP return

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Findings of Lon-run Underperformance of IPO

The sample of 99 IPOs underperformed the market benchmark


by 10.19% per year in five years of going public.

Focusing on the five-year returns, the overall five-year mean


wealth relative is 0.66. In other words, a strategy of investing in
IPOs on the fifteenth trading day and holding it for five years
would have left investors with only 66 taka relative to one
hundred taka from investing in a market portfolio.

While examining the systematic risk profile of IPOs in


secondary trading in our sample, we find that IPO firms, on
average, have a cross-sectional beta lower than one (0.91).

We do not find any beta-bias with respect to the market


portfolio, confirming the robustness of the long-run IPO
underperformance vis--vis to the market benchmark.

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Findings of Lon-run Underperformance of IPO

Initial returns have no systematic relationship with long-run


performance implying that no long-run reversals have been
observed.

We also find that companies with highest initial return


quartile have done worst in the aftermarket.

This finding is consistent with Shillers fads hypothesis


which states that companies with highest initial return should
subsequently have lowest returns.

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Conjectures of causing Lon-run Underperformance of IPO


Can the phenomenon be attributed to:
a)

The ability of the issuer to time their offerings and take


advantage windows of opportunity in the sense of Ritter
(1991).

b)

Unanticipated post-IPO decline in operating performances


[Jain and Kini (1994) and [ Imam and Amin (2010)].

c)

Earning management by IPOs prior to going public [ Imam


and Jaber (2010)], that leads to disappointment hypothesis
of making downward correction of IPO price in the long run

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THANK YOU ALL

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