IPO – 3 Mistakes to Avoid While Investing in an IPO

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The Initial Public Offering or IPO of Happiest Mind Technologies planned to raise Rs. 700 crores. It has been oversubscribed by 151 times. Investors have put in bids worth Rs. 105,000 crores. Let that sink in.

This is not the only IPO in the market. As per listings with SEBI, there are a few more coming through.

I am afraid this is a time when a small, retail investor starts believing that there is a chance to make some real ‘quick’ money – by investing in IPOs.

It is one of the biggest fallacy of our times. I had my own encounter with this phenomenon. I I have made mistakes too. And I learnt my lessons.

I will share them with you here. I hope you can benefit from lessons and use them to make wiser decisions for yourself.

(NoteI have used ‘stock’ and ‘share’ interchangeably in the post. They mean the same thing.)

#1 Investing in IPO for listing gains

I remember about 15 years ago, IPOs were considered as the sure shot way to make some quick gains. Almost every IPO was invested in for just one single purpose – listing gains.

In the first few days of the listing, the stocks would usually see a rise in price. Sometimes the price would go up by a huge margin – all in a matter of few days.

When I made my first stock investment, I followed the same pattern – investing in IPOs.

National Thermal Power Corporation (NTPC) came up with its IPO in Oct 2004. I applied, from my newly opened online demat and trading account, for about 100 shares.

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The stock got listed at a price of Rs. 62. Within 3 days, it touched Rs. 67. I was checking the price every hour and getting anxious. I could see the gains and I did not want to lose out on them.

I had to do something.

And what did I do? I think you guessed it. On the 3rd day, I sold all the shares.

According to my calculations, I made a neat 8-9% gain in just one month of investment. To make sense of it, that is what a Fixed Deposit gives you in 1 year. Wasn’t I smart?

I don’t think so. The stock more than doubled in just a few years and not to mention the generous dividends that came along.

Let me tell you another story to understand the idea of holding on,

My family has been holding Hindustan Unilever or HUL (previously Hindustan Lever or HLL) shares since the company came out of its IPO, way back when I wasn’t even born.

In 2010, my father wanted to sell his part of the shares. Actually, HUL had announced a buyback programme in which it was acquiring its shares at a handsome price of Rs. 280 per share.

This was at almost a 20% premium than the price in the stock market. It was very enticing and my father was willing to take up the offer.

I suggested to him not to. (You see by that time I had gained some sense). This is year 2020. The HUL stock price is currently close to Rs. 2100. Wow! It has trebled or become 7.5 times in just 10 years.

Plus my father received all the dividends. He continues to hold on to his shares (partially).

The simple lesson – don’t invest in IPOs for just the listing gains. There is more to gain by simply holding on.

Also Watch: 10 Mistakes to Avoid from $0 to IPO

#2 Believe the popular, pink media

Your pink newspapers, online media, etc. discreetly sell you the idea of investing in an IPO. They can be hired by big companies to create a positive atmosphere around IPO investing because the company’s is making a public debut.

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In 2008, at the height of stock market bull run, Rediff had an article on its website on how to make money from IPOs. I quote from it.

They (IPOs) offer opportunities for making quick money which few other forms of investment can hope to match, match particularly during the market’s bull phase.

You should read the article. For all the good advice it has to offer, it just kills itself with this one statement above.

The real purpose of an IPO

An IPO allows a private company to get investments from general public, which it can use to expand its operations / business.

It provides an opportunity to investors like you and me to participate in the growth and gains that the company delivers. There is nothing more to it. You have to approach it like any other investment.

The simple lesson – avoid basing on decisions on only pink newspaper analysis and recommendations. They make their money from advertisements from the same companies.

A serious conflict of interest.

Research on your own and evaluate if the IPO is a worthy investment.

#3 Big names mean big gains

This is another big fallacy that retail investors have in their mind. We believe that big names are well established and it would be safe to invest the money with them. Unfortunately, that is not always the case.

The worst IPO case study, in my limited memory, has been that of Reliance Energy in 2008, at the peak of the last bull run.

Driven by huge publicity and backed by the name and legacy of Reliance, it went on to garner an unprecedented amount of money from the public.

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I was an investment advisor with an organisation at that time and we received thousands of queries about the IPO. The research team had clearly given a “DO NOT INVEST” to the IPO. And investors thought we had gone crazy. How could we say no to a name like that?

It is public knowledge now – what happened to the stock after the IPO? Markets crashed and so did the share price of the company in question. I have yet to meet someone who made money on it.

The simple lesson is – a big name or huge publicity does not guarantee equally big returns.

What should you do?

It is important that you look at every single IPO independently and evaluate all the pros and cons. Don’t get carried away by pomp and show or by what your friend, colleague or neighbour is doing.

A simple question you should ask is –

Is this a stock that I will hold on to for at least 10 years?

Work towards finding all the relevant information that you will need to answer that question.

If your answer turns out to be yes, go ahead and invest. Else, your money is better off in another investment.

Yes, you may need to sell your stock but it has to be done for the right reasons.


Between you and me: Are you investing in IPOs? What’s your thinking on IPOs and stock investing in general? Do use the comments box to share.

This post is an update of the original written 5 years ago. More things change, more they remain the same.

Cover Image: Motley Fool

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Vipin Khandelwal
Vipin is a SEBI Registered Investment Adviser. He works with investors to make better decisions and create behaviour alpha.
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