Your IPO “Cheat Sheet” For June

Fake news and political mudslinging is at a fever pitch.

Yet there’s an opportunity cost to buying into the Beltway chaos.

When truly valid storylines can’t even make the back page, we all lose.

I’ll share one such example today.

IPOs are performing admirably in the first half of 2017.

In fact, IPO year-to-date returns of 16.7% are better than twice the S&P 500.

The big IPO winner so far is AnaptysBio Inc (NASDAQ:ANAB).

AnaptysBio is a clinical-stage biotechnology company that specializes in anti-inflammatory protocols.

So while CNN sparks “faux outrage” on everything happening inside the Oval Office, they’re ignoring companies trying to improve the lives of people.

Only 10 of 2017’s 46 IPOs are presently underwater.

With nine more IPOs on the table — led by names like Yeti, Biohaven Pharmaceuticals and G1 Therapeutics — let’s dive deeper into IPOs.

I asked my senior analyst Martin Hutchinson to give our readers an edge heading into summertime.

Hutch’s full IPO report is below.

Ahead of the tape,

Louis Basenese
Chief Investment Strategist, Wall Street Daily

Question: Martin, you’ve agreed to help us compile a library of the most important investment catalysts. These are all baseline concepts that we believe every investor should know.

Today, we’ll be discussing IPOs, so let’s jump right in. Let’s start at the beginning. What is an IPO?

Martin Hutchinson: Initial public offerings (IPOs) are the traditional means by which companies sell shares to the general public for the first time, and thereby fund themselves short term and provide a platform for further funding for long-term growth.

IPO volume dropped 36% in 2016: 112 IPOs raised $21.6 billion. And that was the smallest volume since 2009. But there’s been a recovery in 2017, with a big $4 billion IPO for Snap Inc (NYSE:SNAP). (or the Snapchat company) in March. Although that company recently reported first-quarter earnings that weren’t that happy.

Question: Martin, are IPOs any type of indicator that can tell us a little bit about the underlying economy or the underlying stock market?

Martin Hutchinson: Yes, in general, IPOs tend to be more common at the top of markets. You’ve had a slight anomaly in this latest cycle in that you’ve had a lot of private equity financing for companies.

Private money has become much more aggressive. You’ve got unicorns (private companies with a $1 billion valuation) — even decacorns (with a $10 billion valuation).

Uber, the online taxi service, was $65 billion at its peak. That means those companies don’t need to IPO until later, and some may never reach that stage.

Question: What do you attribute the change in sentiment over the last 10 years in IPOs to?

When we were founding Wall Street Daily, IPOs were all the rage. And our readers couldn’t get enough of the latest hot IPO. But now it’s different.

Now it seems like for the investor, it’s a buyer-beware situation. What do you attribute that shift to?

Martin Hutchinson: Well, I think they’re right second time, so to speak.

From the company’s point of view, they’ve become more expensive. Sarbanes-Oxley requires CEOs to certify the tech system. And that’s a big risk for the CEOs — and it’s very costly to do that.

They’re good for institutions because favored institutions get lots of shares of the IPO price.

The bonanza for Wall Street is because there are 5% fees on IPOs — lots of trading business of fat spreads. Snapchat, for example, traded more than 100% of its IPO on the first day.

For private investors, though, it’s a bit of a snare. If it’s a hot deal, you don’t get much of an allocation — whereas you do get a big allocation if it’s a rotten deal.

By and large, when you apply for the shares, you don’t know which it’s going to be. If you buy on the first-day pop after the issue, you almost certainly overpay.

For example, Snap traded at $28 on its first day and it’s now back to its issue price of $21 — and indeed heading below. It’s back below the IPO price even though the market’s up.

There’s often a wave of sellers after the lockout period expires six months after the IPO.

Question: Let’s talk about that first-day pop. I want to take the media to task on this. It’s a pet peeve of mine the way the media report that first-day pop.

They may report a 50% move in the stock price overnight. But what really happens is that stock will have popped 50% before trades really started trading that day.

By the time the market opens to regular people just getting in and out of the stock, it’s already at that peak price. A lot of times lately, it’s straight down from that pop.

Why do the media report it that way? And who’s making all that money before the stock even starts trading regular shares?

Martin Hutchinson: To start with the money, the institutions who are given shares in the IPO who have a long-term relationship with Goldman Sachs or the issuing bank, they’re the people who get shares at the IPO price. And so they make money in the initial pop.

Obviously, the underwriters who keep a lot of shares for themselves also make a bonanza on that initial pop. It’s very, very profitable for Wall Street and Wall Street’s friends.

It does nothing for the individual investor because, as you say, the individual investor can’t buy until the damned thing’s actually opened. He gets very few or no shares in the initial IPO allocation.

Question: So that’s where I don’t believe they should report it as a 50% pop if it’s just the preferred shareholders, the founders, the venture capitalists who are seeing that 50% pop. By the time the market opens, you’re lucky to stay at that price, right?

Martin Hutchinson: I think that’s right, absolutely. And particularly as you’ve got a bunch of insider shareholders who have a lockout period of three or six months and then want to sell at the end of that, you’ve generally got a downdraft some months after the issue.

I think individual shareholders should be very careful about buying IPOs particularly until that initial pop.

Question: Might there be an opportunity on the downside of this, then, particularly as the lockout period starts to approach?

Martin Hutchinson: Yes, well, that’s the interesting one. If you wait six months and buy after the end of the lockout period, you’ll generally have a period when there’s been a downdraft on the shares.

For example, Facebook (NASDAQ:FB), which was IPO’d at $38, sold in the low $20s six months out when its lockout period expired.

Now, that’s the point at which the IPO can be a very attractive buy indeed. Because you’ve had a couple of quarters of public figures announced after the IPO. You’re not in a period of huge hype for the IPO. They’re not fiddling the books to make the IPO look good.

The insiders who want to sell have sold, and very often if you buy six months after the IPO, you can get a very good deal indeed. Facebook is the obvious example. It sold in the low $20s six months after the IPO and is now trading at about $150.

Question: Martin, it seems to me that the two worthwhile strategies here would be to wait for shares to open to the public and a modest pullback to occur,preferably all the way back to the offer price.

Or maybe our very speculative investors might even want to buy some puts at the top or short the stock. Can you give us the final word on IPOs?

Martin Hutchinson: If you can short the stock or buy puts reasonably cheaply at the top, that’s probably a sensible thing to do. But I suspect the put market will be hugely distorted on that first day of trading, so it’s probably not a realistic strategy.

The really sensible thing to do is watch the IPO calendar like a hawk. Look at the offering documents and all the information that’s produced — and then wait six months.

Six months later — if it’s selling at a discount or if there have been some really good earnings announced — that’s the time to buy. Because then there’s no more downdraft and you may see a big upturn in the long run.

Question: Martin, thanks for your time today.

Martin Hutchinson: Great to be with you.

Question: This is Wall Street Daily signing off.

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