Knowing the rules of about IPOs and when to buy into one are all well and good. As I discussed last week, there are warning signs for when to get into and when to avoid that “hot” IPO that your broker is pitching you.
But, there’s more. There’s a dirty little trick that Wall Street Insiders use to their benefit when deciding how much money they and their colleagues are going to make. They used it on IPOs like Linked In (LNKD), which offered less than 10% of the shares outstanding in its IPO causing the share price to rocket, doubling in its first day of trading.
The float refers to the number of shares that actually are available for trading Consider Linked In. They offered a mere 7.8 million shares into a market where investors were foaming at the mouth for IPO shares. More than half of those shares likely ended up in the hands of long-term investors, which meant that less than 4 million shares were available to actually trade. Linked In priced its IPO at $45 per share. At the end of the day, the shares closed at $94.25, after hitting $122 inter-day. The volume was a staggering 60.2 million shares. That means that even if the whole float were trading, it turned over more than 8.5 times. More likely though, using the 15 million number, it traded more than 15 times. That is why the shares rocketed higher.
It’s a supply and demand story. Lots of demand and minimal supply. The shares then fell for a few days knocking many after-market buyers (those that buy in the market after the IPO is released) for a loss. But, the inside players made out like bandits. This trend towards small float IPOs still continued today and Twitter (TWTR) was the latest example.
It issued just 70 million shares out of more than 545 million outstanding. The IPO was priced at $26 and opened at close to $45 before falling back in the days after. Again, the float was less than 15% of the shares outstanding – do you spot a trend?
When you are in the market for an IPO and you can actually get access to shares, here’s what you need to look for in order to basically ensure a winner:
1) Be sure the float, the number of shares being issued in the IPO is 20% or less of the shares outstanding. The lower the percentage, the higher the pop should be – unless the company itself is a real dog.
2) The price of the shares should be repriced upwards at least twice before the IPO. An IPO is priced on the night before it begins trading. Based on demand in the market, that final price could have been adjusted higher two or three times in the days before the IPO pricing. Higher range means there is demand for the stock.
3) Insider selling – you want to be in an IPO where the insiders are not selling their entire positions. When this happens, the monies raised in the IPO got to those insiders and not the company.
4) Don’t invest in IPOs where the shares to be issued are more than 100 million shares. This larger number results in more than adequate share volume to keep the price down. Remember it’s a supply/demand game and no one cares about the market capitalization when they are in frenzy and just a small number of shares are available.
These rules will put you on the same playing field as the investment banks and their buddies. Trust me, they are going to hate me for sharing this with you!
To your wealth,
Banker X.
