Investing in IPOs come with certain risks
Last week, three big IPOs made huge returns on their first day of trading. We tracked the more notable IPOs, and the three companies I’m talking about are listed in the table below. In our list of 153 IPOs since 2010, the three stocks below ranked 10th, 13th, and 22nd, respectively, by their percent return on the first day of trading. This week I’ll look at how IPOs have tended to act in the past following huge day one returns. It could give some insight into whether these day-one spikes signal unmerited hype, or the next big thing.
IPO Returns After the First Day
Before we look at the IPOs that skyrocketed on the first day of trading, let’s look at what the first year looks like after investing in any IPO. These are risky, volatile investments. The average return bounces around from 8.7% three months after the IPO, but only 3.3% six months after the IPO, before averaging a 22% return over the first year of trading. All in all, buying these stocks soon after their IPO have been good investments since 2010. It comes at the cost, however, of being very risky. Of the 136 one-year returns, barely half were positive, and if you lost money, you lost big. The average return on the losing IPOs was a loss of nearly 30%. Also, only 44% of them beat the S&P 500 (SPX) over their first year of trading. So, more times than not, buying the S&P 500 would have been better than the IPO stocks.
Now that we know how IPOs have performed in general, let’s separate out those that closed at a 100% gain or more on the first day of trading. Looking at the short-term returns, these stocks were more likely to struggle. A month after they started trading, only 36% of them were positive, averaging a loss of 1.9%. The stocks have performed better in the medium-term but, as expected, with a lot of volatility. The three-month return stands out with an average of 18%; however, that’s buoyed by Beyond Meat (BYND), which spiked way up to a 167% return after three months, before falling back to something more normal.
The one-year performance of these high-flying IPOs is not as impressive as other IPOs. The stocks averaged a respectable 9.4% over their first year, but only four of nine were positive, and only three of them beat the S&P 500 in the first year. Looking at the average positive, average negative, and standard deviation, these stocks have been less volatile than the other IPOs.
Finally, here’s one more benchmark to compare the table above to. The table below shows the performance you would have if instead of buying the IPOs after they closed their first day with a 100% gain or more, you simply bought the S&P 500. Based on the average return over a full year, you would have done better by buying the IPO stocks, but the risk may not have been worth it. Buying the S&P 500 each time would have led to positive returns nearly 80% of the time, compared to just 44% if you bought the stocks. Also, the short-term and intermediate returns were much smoother and more predictable.
Using this analysis as a guide on what to do with the recent high-flying IPOs, I would say take a cautious approach. A big portion of similar IPOs did not beat the broad market and the outperformance was minimal after the first year of trading. They were, however, very volatile with some big winners.