Are investors missing the 'IPO' bus? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Are investors missing the 'IPO' bus? 

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In this issue:
» After black swan, here comes the 'bronze swan'
» Why gold will retain its allure
» Fitch: China's debt to GDP raises a red flag
» What is root cause of ponzi schemes in India?
» ...and more!

Investors in HDFC Bank IPO made 6,980% returns in 18 years. The tales of investors in Infosys' 1993 IPO becoming millionaires is common. That too, assuming they did not cash out during the 2002 tech boom.

Initial public offerings (IPOs) are therefore meant to be a golden ticket to participate in a company's path to prosperity. However, most companies going the IPO route have not stayed true to this spirit. Many may not be aware that until the early 1990s, IPO-pricing was decided by the Controller of Capital Issues (CCI). The CCI decided that Infosys could make an issue at a premium of Re 1 (issue price of Rs 11) in 1993! It was only when the then Finance Minister Manmohan Singh abolished the post of CCI, could Infosys price the issue at a premium of Rs 86. However, between then and now the absence of a 'controller' for pricing of capital issues has been a much debated subject.

The Reliance Power IPO in 2008 was a classic case of mis-priced IPO. Despite not having a single rupee in revenues the company priced the issue at a premium of Rs 395 per share! Ever since, company promoters and lead managers have been looked upon with suspicion by investors. Unless the IPOs are attractively priced investors have been wary of losing money in them. Even the lure of listing gains has fizzled out with markets not rewarding speculators with gains on listing of over-priced IPOs.

There is so much negativity about IPOs that the market has almost dried up over the past three years. Very few companies have dared to debut on the bourses during this period. Even amongst the ones that did, just a handful have managed to stay above listing price.

The question is: Are investors missing the bus by letting go the opportunity of investing in companies at the IPO stage? Well, we cannot resist quoting Buffett's view on IPOs here "The new issue market is ruled by controlling stockholders and corporations who can usually select the timing of offerings. Understandably these sellers are not going to offer any bargains. It's rare you'll find X being sold for half X. Indeed, in the case of common stock offerings, selling shareholders are often motivated to unload only when they feel the market is overpaying."

Thus it is even more important for investors to judge the moat of the business, the sustainability of profits and management quality of the businesses offered through the IPO route. Since it is difficult to reasonably evaluate these for a company yet to be listed, it is better to exercise caution. Besides the margin of safety in IPO valuations, investors must be way of future visibility.

Hence we do not think investor concern is in any way misplaced by giving over-priced IPOs a miss. It is a far safer option to invest once the companies prove their worth a couple of years after listing.

Do you think investors are missing the bus by being over cautious about IPOs? Please share your comments or post them on our Facebook page / Google+ page

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01:35  Chart of the day
Although the Reserve Bank of India (RBI) is planning to issue new banking licenses, most of which will go to private sector players, the depositors may not be very keen to bank with all of them. If the response to the latest Equitymaster investor survey is anything to go by, there is still an overwhelming preference for banking with PSU banks amongst depositors. More than 40% respondents to the survey cited their preference for PSU banks. In fact the trend is very similar to 2008 when depositors actually withdrew money from private sector banks, fearing a run on them.

Source: Equitymaster survey

Well, we've heard about the white swans and then we also heard about the black swan. Now, yet another swan has emerged. And it's being called the bronze swan. The word bronze being a reference to the metal of copper. The world had always wondered about how there had always been a lot more copper in China than the country actually needed. It now turns out that a good part of the copper stockpile was nothing but a ploy undertaken by small and midsized firms to get themselves funded. It should be noted that China had put in place plans to restrict funding to its corporate sector. So, what did the Chinese companies do? Well, they started importing copper from abroad so that they could get trade financing or any other similar form of financing. They would then use the physical copper as collateral for domestic borrowing. However, the Chinese government has now finally decided to end such financing deals as it was hurting China's current account situation. Therefore with this move, it is expected that copper would eventually settle down to lower prices.

Gold's importance has multiplied since the beginning of the global financial crisis in 2008. And its meteoric rise has prompted investors to question whether the metal needs to be bought at current price levels. An article in Firstpost states that the current state of affairs has made gold a very attractive proposition to be considered at current prices. The current global environment is highly supportive of having gold in one's portfolio. The developed economies are in a dump. Central banks in these countries have resorted to massive quantitative easing measures which have eroded the value of paper currencies and strengthened the case for gold. And despite what the US says of the economy improving, economic data remains mixed. So it seems quite unlikely that the printing money process will be entirely done away with.

What will also determine the gold prices is the money supply in the economy. Bernanke seems intent in extending credit to the economy. And as long as this happens, inflation will only rear its ugly head once again. Indeed, corrections in the metal along the way are bound to happen. But the developed world has shown no meaningful signs of recovery. Plus the central banks have shown no signs of halting printing of money. Thus, gold will retain its allure in the longer term.

Cheap credit is a trait that marks most of financial crisis we have witnessed till date. With such strong correlations, one would expect the nations to learn lessons and sober up on debt. However, reality is just the opposite. And the next economy that is inviting a financial crisis is none other than China.

As pointed out by Charlene Chu, a Fitch analyst, total debt to GDP in China has hit levels where a red flag needs to be raised. The credit is already more than double the GDP. Worse, it is only set to grow at double the pace. China, once an export driven economy, is now being driven by the credit boom. The problem with this pattern is that this debt is not being invested in the growth. Instead, money is being borrowed to repay previous loans. This is a serious issue and makes one wonder how this money will ever be repaid. Especially now when the growth in China is slowing down. One may call Chu biased as ratio of nonperforming loans seems to have come down since the end of 2008. However, as per Chu, this data is distorted. It excludes off balance sheet loans that have been sold to investors ready to take higher risks in hope of better returns. A credit boom along with fancy financial products designed to keep risky assets off the books was something that laid the foundation for one of the worst financial crisis that still haunts the global economies. While it might not be a case of imminent doom as most of China's credit is funded by its internally generated deposits; what is happening in China has all ingredients that go into making a disaster.

There have been debates going on for a while as to whether the six large 'too-big-to-fail' US banks have had an advantage over their smaller counterpartsin terms of lower borrowing rates. Analysts of Goldman Sachs - one of the six TBTF banks - recently released a report reasoning why this TBTF logic is flawed. But an interesting article in Bloomberg counters most of the arguments. On an overall basis, the key question is whether these TBTF banks are borrowing at rates lower than they otherwise would. And not necessarily in comparison to the smaller banks; all this given that they have backing from the government. Let us take up an example. Companies' debt instruments are given various ratings. What the author of the article is suggesting is that one should not be comparing a company having 'AAA' rating with one having a relatively lower rating of 'A'. Instead, within companies having 'AAA' ratings, can a particular company get more of an advantage just because it is funded or backed by the government? Looking at it from this perspective, we believe it surely does weaken the analysts' stand.

Of late, a lot of fraudulent ponzi schemes have come to light. Lakhs of Indian investors have lost their hard-earned money. Here's some more worrying news... Recently, MD & CEO of Amway India was arrested for alleged money laundering and breach of trust. For starters, Amway is India's largest multi-level direct selling company. In the direct selling system, products are sold directly to consumers through a network of sales agents.

With this recent arrest, the scanner is now on direct selling companies. Are they similar to other ponzi schemes? Apparently, the fault lines separating the two may be diminishing.

One of the biggest problems in a country like India is lack of investor education. Gullible investors are often duped into putting their money into questionable schemes. Inspirational success stories are told. Big promises are made. Investors are assured of mindboggling returns. Then of course, reality gives them a rude shock. And people realise they have lost a lot of money.

Profit booking in commodity and banking stocks have led the key indices in Indian equity markets to languish close to the dotted line for most of the session today. The BSE Sensex was trading lower by around 9 points at the time of writing. Other major Asian markets, except Hong Kong and India, closed higher while markets in Europe opened in the red.

04:50  Today's investing mantra
"Long ago, Sir Isaac Newton gave us three laws of motion, which were the work of genius. But Sir Isaac's talents didn't extend to investing: He lost a bundle in the South Sea Bubble, explaining later, "I can calculate the movement of the stars, but not the madness of men." If he had not been traumatized by this loss, Sir Isaac might well have gone on to discover the Fourth Law of Motion: For investors as a whole, returns decrease as motion increases." - Warren Buffett

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    7 Responses to "Are investors missing the 'IPO' bus?"


    Dec 11, 2016

    Suggest log term stock for big return



    Aug 26, 2016

    can i buy welspun india stock



    May 31, 2013

    I have a query regarding this line mentioned in "Are investors missing the 'IPO' bus?"- total debt to GDP in China has hit levels where a red flag needs to be raised. The credit is already more than double the GDP.
    The concern is that the wikipedia page shows China's debt as around 30% of GDP which is quite contrary to your idea.
    I hope to hear the reasons from you at the earliest.


    Soni SS

    May 31, 2013

    I fully agree with your views. In fact the history of last 5 years proves this fact. Besides overpricing, economic instability and macro level concerns further deter retail investors from IPOs. I would prefer to wait for some time and take a call at opportune time.


    monish gaur

    May 30, 2013

    without a controller ipo has become a way to loot the masses, fill your accounts here, there, everywhere and play in ipl with the mullah not the bat. but come to think of it counters like nhpc from govmt, good banks like hdfc bank recommending an ipo like manaksia though it itself gives 2000 percent returns over 18 plus years, but it loots its customers, minimum 15k, fines etc, no new cheque books sent, before or fter 01 april. bhaiya thhe new oldie is "loot lo" whether in ipo or ipl or bnking or housing or......... in not selling but recommending to buy gold, the motive is clear " loot lo" .......on second thoughts for these new millonires nd billionaires........share your dosh in your life time.....your children are no better than u, they will squander your money...donate atleast some part and have that hppy feeling you never can get from nything else



    May 30, 2013

    Its not only Reliance Power but Future Capital of Biyani(Big Bazar)also eroded the wealth of many people. number of investors lost their hard earned money in that IPO which was wrongly priced at around 800/- per share now trading at around 150/- per share without any returns in last 5 years. such big fishes are always escort free even after duping small investors.


    Manoj K Mondal

    May 29, 2013

    There is no fine line differentiating sound investments from ponzi schemes. The rosy statistics presented by Equitymaster for enticing gullible members may find a place on the borderline at either sides. Even the agents of a ponzi scheme may use such statistics vis-a-vis the returns by individual member-investors of Equitymaster to sanitize their ethical standard. The only difference I find is that Equitymaster makes serious efforts in educating its subscribers and readers. The point I would like to make here is that a person getting lured is as much in fault as the agents. Unless ordinary people become more rational the scheme will resurface again and again. I fully agree with the point made in the article.

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