Mispricing in IPO Methods and the Predictive Ability of Investors' Interest for New Issues

Abstract

This paper investigates the relationship between underpricing and the investors' interest prior to and after the IPO day. The empirical study, conducted on 305 French issues, shows a first-day abnormal return of 17.13% and a significant mispricing over the three first trading days (a 3-day Cumulative Abnormal Return of 19.15%). Initial underpricing is positively related to the share demand-to-offer ratio in the pre-market period, and to trading volume (scaled by shares issued) in the aftermarket. Higher turnover for underpriced issues than overpriced issues, used as a proxy of divergence of opinion among investors, suggests that informed investors participate mainly in underpriced issues. Book-built issues have a lower underpricing, on median, but a higher variance level, than the auction-like and fixed-price offerings. Despite the high initial underpricing of some book-built issues, book-building procedure appears to better control the information gathering from investors participating in the offering, and to be a more efficient pricing system than the auction-like procedure.