Purchasing stock in an initial public offering (IPO) isn’t as straightforward as placing an order for a specific quantity of shares. You’ll need to work with an IPO-capable brokerage—not all of them do.
“Typically, you’d have to buy IPO stock through your stock broker, and on rare instances, directly from the underwriter—i.e., knowing someone at the company or investment bank,” explains Gregory Sichenzia, founder of Sichenzia Ross Ference, a securities law firm based in New York City.
Access to IPOs may be available through brokers such as TD Ameritrade, Fidelity, Charles Schwab, and E*TRADE. However, many organisations will need you to achieve specific qualifying conditions, such as a minimum account balance or a certain amount of trades executed within a certain time frame.
Most crucially, even if your broker provides access and you qualify, you may not be able to buy the shares at the original offering price. Ordinary retail investors are typically unable to purchase shares as soon as an IPO stock begins trading, and by the time you are allowed to do so, the price may have risen dramatically from the advertised price. That implies you could wind up paying $50 per share for a stock that started at $25, missing out on significant early market gains.
To remedy this, services like Robinhood and SoFi now allow individual investors to purchase specific IPO company shares at the IPO price. You should still conduct your homework before investing in a company’s initial public offering.
Should You Invest in Initial Public Offerings (IPOs)?
Investing in an IPO, like any other sort of investment, comes with dangers—and there are probably greater hazards with IPOs than with buying stock in existing public firms. Because there is less data accessible for private enterprises, investors must make decisions based on a greater number of unknown variables.
Despite all of the stories you’ve heard about people making a fortune on IPOs, there are plenty of others who show the opposite. In reality, between 1975 and 2011, more than 60% of initial public offerings (IPOs) had negative absolute returns after five years.
Take, for example, Lyft, Uber’s ride-sharing competitor. Lyft went public in March 2019, with a share price of $78.29. The stock price plummeted almost quickly, reaching a low of roughly $21 within a year. The stock price has rebounded significantly, and it was above $57 at the time of writing. However, even if you had invested when Lyft went public, you would not have made a profit.
Other businesses succeed over time but struggle to get off the ground. Peloton was set to go public at $29 per share, but it debuted at $25.24 in September 2019 and struggled for the first six months, eventually reaching $19.72 in March 2020. It’s regarded as the third-worst mega-IPO launch ever.
By February 12, 2021, if you had continued with Peloton, its stock would have risen to $154.67. Would you have been able to persevere through Peloton’s lows in order to attain its Covid-19-induced highs?
“Just because a firm goes public doesn’t indicate it’ll be a successful long-term investment,” Chancey explains. Take, for example, Pets.com, which went public with a market capitalization of roughly $11 per share, only to see its stock price plummet to $0.19 in less than 10 months due to significant overvaluation, high operational costs, and the Dot Com market crash.
“Buying IPOs isn’t investing—speculating,” argues Gagliardi, because many of the shares allocated in the IPO are flipped on the first day. “If you really like the stock and want to hold it for a long time, wait a few weeks or months until the excitement subsides and the price falls, and then buy it.”
Investing in Initial Public Offerings in a Diverse Way
Consider funds that offer exposure to IPOs and diversify their holdings by investing in hundreds of IPO businesses if you’re intrigued in the exciting possibilities of IPOs but prefer a more diversified, lower-risk strategy.
Since their debut, the Renaissance IPO ETF (IPO) and the First Trust US Equity Opportunities ETF (FPX) have returned 18.35 percent and 13.92 percent, respectively. The S&P 500, a significant stock market benchmark in the United States, has averaged roughly 10% returns during the last 100 years.
Yes, IPO ETFs may have slightly greater highs than index funds, but you may also be in for a wild ride, even from year to year. According to Fidelity, one-year U.S. IPO returns reached a low of -9 percent in 2015 before skyrocketing to 44 percent in 2016. That’s why most financial planners advise investing the majority of your money in low-cost index funds and allocating only a tiny amount of your portfolio to more riskier investments, such as chasing IPOs, up to 10%.