You often read of the share price of IPO companies jumping on the first day of trading, and it seems like easy money. Now, we examine an IPO strategy is a worthwhile endeavour. By strategy, we refer to an investor subscribing to IPO shares and then selling them on the first day of market close.

Are IPOs typically underpriced?

According to a paper by Loughran, Ritter and Rydqvist, IPOs typically do exhibit large initial returns. While the measurement of initial returns is constructed differently from country to country, they are all confined to the short-term; ranging from a day to several weeks.

Here are the weighted average initial returns of the more established markets:

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For the full list, click here.

This confirms that IPOs are indeed typically underpriced in the short run.

Why are they underpriced?

There are some theories covered in the paper which try to account for this …