Will IPOs continue to disappoint investors?

Dec 29, 2012

In this issue:
» India set to overtake the UK by 2017
» Exports remain weak in India
» Private debt placements reach a record high in 2012
» At the current state, foreign carriers are unlikely to invest in India
» ...and more!

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Initial Public Offerings (IPOs) are a rare animal which usually appear when stock markets are trading at peak valuations. These exotic seasonal creatures appear like a monsoon deluge in a bull market. When the market takes a turn for the worse, they all but completely disappear. What makes their appearance exciting every time is that their arrival is accompanied by huge media frenzy, reams of newsprint and public furor.

But, for most investors, investing in an IPO is like playing cards with the deck stacked against you. The promoters, investment bankers, and brokerages all have vested interest in the successful subscription of an IPO. From doctored financials, to multiple star ratings, these IPOs enter the market with all guns blazing. Sometimes they see huge gains on listing day in the case of MCX or Care Ratings this year. Or maybe not as seen in the case of the recent Bharti Infratel debut. But, sooner or later sanity catches up with the stock prices. In 2012, 24 IPOs collectively raised Rs 69.5 bn. This was the second lowest total rounded up by primary markets since 2003!

Globally the situation was similar. In 2012, IPOs slipped to their lowest level since the financial crisis. Signs of a sustained economic slowdown, the upcoming fiscal cliff, and Facebook's disappointing showing in the primary markets curbed investment demand. Companies were forced to push back sales. According to data compiled by Bloomberg, IPOs raised only US$ 112 bn worldwide this year; this is the lowest showing since 2008. IPOs in Western Europe dropped to 1/3rd of last year's level. Concerns over the China's economy cut proceeds in Asia by around 43%. Public offerings in the US raised US$ 41 bn, relatively unchanged from last year. The Facebook debacle led to a month-long drought in US deals.

But, will we see a revival next year? The global backlog of potential primary offerings has swelled to the highest levels since 2007 at about US$ 115 bn. If policymakers are able to avoid the fiscal cliff, IPOs may be back in season globally. Back home in India, a few more disinvestments from the government are in the pipeline for next year. Investor sentiment has improved since markets are up 26% on a year to date basis. However when it comes to performance, we believe that only companies with valuable brands, strong management and clean balance sheets will be able to face the test of time.

Do you believe that IPOs will see a rebound next year or continue to disappoint?Let us know your comments or post them on our Facebook page / Google+ page

 Chart of the day
The stock markets have come a long way since the levels seen last year. In fact the benchmark index is trading close to its 19 month high. After a lackluster performance in 2011, the BSE-Sensex is up close to 26% on a year-to-date (YTD) basis in 2012. However despite this, today's chart of the day shows that the Sensex is still trading below its 10 year average price/earnings valuation of 18.52 times. It seems that investors have shrugged off concerns of about global economic recession, high interest rates and inflation. Strong foreign institutional interest has led to a run-up in valuations. But, is the rally over? Well, with interest rates expected to cool off next year, targets of fiscal consolidation to be met and reforms to be acted upon, we may even see a further run in Indian equities. The upcoming fiscal cliff in the United States can however be a major cause for concern.

Note: TTM stands for Trailing Twelve Months
Data source: Ace Equity

India's GDP is expected to grow by leaps and bounds in by 2017. According to the Centre for Economics and Business Research (CEBR), India is set to overtake the UK by 2017. Thus, it is to become the largest economy in the Commonwealth. The fact that Britain will no longer be able to hold on to its spot is not really surprising. With the debt crisis worsening in the US and Europe, most of these countries are either in recession or facing the prospect of one. Britain has been no exception. In contrast, how has India been faring? The Indian economy has also been battling slowing economic growth, high inflation and firm interest rates. That said, the country's growth rate has been higher than that of its developed counterparts. And by that measure alone be able to overtake Britain. But what will firmly seal India's dominance is more initiative from the government to implement reforms and ramp up infrastructure. Only then can the country's growth move to the next level. In the meanwhile, Britain can take solace from the fact that its economy is expected to be larger than that of France by 2022.

Bank loans remained expensive in 2012. With base rates in double digits (around 10%) there was little that bankers could do. Banks also considerably reduced their exposure to the infrastructure sector. The fallouts of these were not too bad though for debt markets. In fact, at Rs 2.6 trillion, debt private placements touched a record high in 2012. Given the arbitrage opportunity between bank interest rates and yields on corporate bonds, India Inc. did not lose the prospect. Indian companies rushed to raise money from the debt market to take advantage of the interest rate differential. Plus foreign investors contributed to the effort. What aided them was the fact that the limit on investment in debt by Foreign Institutional Investors (FIIs) has been rising over the years. Thus the corporate bond market was a key element in facilitating investment in infrastructure in 2012. A deeper and broader debt market could go a long way in serving Indian corporates' funding needs. That too, without causing asset liability mismatches for the banking sector.

For a country like India that has a chronic current account deficit, the importance of exports cannot be emphasised enough. This is because it is the magnitude of our exports that play a crucial role in determining the purchasing power of our currency. However, our exports this fiscal have remained quite inadequate. As per reports, they are estimated to barely cross the US$ 300 bn mark. Forget YoY growth, we are all set to witness a fall vis-a-vis last year's figures of US$ 307 bn. This, even as our imports have continued to go up. Little wonder, policy makers are a worried lot as this makes us increasingly reliant on the fickle capital inflows in order to bridge the gap. The fact that both US and Europe, our key export markets, are going through troubled times makes the whole situation even worse. Of course, efforts are underway to boost exports by way of sops to the industry. But this is not a long term solution according to us. Improving infrastructure and giving priority to developing the manufacturing sector in the country is the need of the hour. Only then we can dream of having a strong exports sector and bridging the huge exports-imports gap.

2012 is almost drawing to a close. A few sectors celebrated the year. But for few sectors the year is one they would prefer to forget. One such sector was the country's aviation sector. Seething with high cost structure and taxes, the sector saw two of its large carriers in trouble. The first one was of course Kingfisher Airlines (KFA), which was forced to suspend operations entirely. The second was the beleaguered national carrier, Air India. The latter saw a bailout from the government which did not help much as its operations continued to be plagued by a series of pilot strikes. Nevertheless unlike KFA, the airlines still managed to stay afloat. To add to the troubles of nearly every airline was the decline in overall passenger traffic. For the period from January to November, passenger traffic declined by nearly 2.9% YoY.

The year had some positive news in the form of government allowing FDI in aviation. But given the pathetic cost structure prevailing in the industry, the proposal is not expected to get too many takers. As per IATA Chief, unless the returns become attractive, foreign carriers are unlikely to invest in India. While some of the issues troubling the sector are specific to individual companies. However, a large part of their troubles are caused by structural issues. Taxes on jet fuel are high which lead to high fuel costs. At the same time infrastructure related to storage and transportation of jet fuel is inadequate leading to higher costs for the airlines. If things are to improve in the sector, these issues will need to be tackled. Otherwise all the talk related to attracting FDI in the sector will remain just that. Talk. Nothing else.

It was a mixed week for global stock markets with stocks markets in Japan (up by 4.6%) and China (up by 3.7%) leading the gains. The Japanese markets posted highest gains in 21 months led by exporters on weaker yen. The US stock markets led the losses with 1.9% decline over the week as the White House and U.S. lawmakers have not yet finalized the fiscal deal the deadline for which is December 31. The investors are concerned as a failure in negotiations will lead to massive tax increases and spending cuts that could drag the U.S. economy into recession.

BSE Sensex was up by 1.1% for the week. The gains were led by buying in rate-sensitive sectors such as banks, real-estate etc on hopes of cut in bank's lending rates by the Reserve Bank of India (RBI)

Amongst the other markets, France (down by 1.1%) and Germany (down by 0.3%) were on the losing side. The stock markets in Singapore (up by 0.9%) and Hong Kong (up by 0.7%) posted gains during the week.

Data Source: Yahoo Finance

 Weekend investing mantra
"No wise pilot, no matter how great his talent and experience, fails to use his checklist." - Charlie Munger

Click here to read our series on 'Lessons from Charlie Munger'

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4 Responses to "Will IPOs continue to disappoint investors?"


Dec 31, 2012

Loved d way u wrote first para..!!! Super..


Neerav Koli

Dec 30, 2012

It's completely absurd to think that, out of the thousands of stocks for sale on a given day, the most attractively priced is the one being sold by a knowledgeable seller (company insiders) to a less-knowledgeable buyer (investors).

Like (3)

sunilkumar tejwani

Dec 29, 2012

I had already commented a couple of days ago at the time of opening of two IPOS' viz CARE & Bharti Infra tel. I had vividly commented: value investing ; shall always be guiding force rather than following the herd,whether be it IPO or secondary market. I had commented then, "I will not be surprised if CARE stock lists at 20% premium and Bharti Infra tel at a 20% discount to offer price. It literally came true: CARE is trading at a good 24% above it's issue price and Bharti ended at 13.5% lower on the first day of listing.
The reason is obvious: overpriced and overvalued IPOS' will never find any takers. I am glad to note that the retail investors did not participate in the IPO of Bharti Infra tel. It was the FII crowd which oversubscribed the issue at 1.31 times. Perhaps, they have either lost their brains or they might have oversubscribed with greed factor, which ultimately back fired.

Like (3)

Umesh Sharma

Dec 29, 2012

Frankly investing in IPOs at huge premiums is a big risk an investor should avoid as far as possible.It is high risk and low return business.There are many examples where the investors have burnt their fingers by losing almost all of their savings when the market price crashes steeply on listing.Unless there is a safety net for refund of subscription in case the market does not uphold the initial offer price,it is wise to stay away from such IPOs and take the fairytale advertisements with a pinch of salt.It always pays to stay with the dependable and proven stocks rather than sticking ones neck out in temptation.

Like (2)
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