Behind the dash in new market listings

There's been an unexpected surge in new listings on the Australian share market over recent months.

The sharp fall on global financial markets over February and March saw Australia's initial public offering (IPO) activity almost come to a complete standstill as the COVID-19 pandemic deterred many companies from undertaking public listings.

Only 12 companies completed IPOs on the Australian Securities Exchange (ASX) during the first half of the year.

But it's been a vastly different story in the second half despite the worsening spread of COVID-19, which continues to severely impact economies and financial markets globally.

While volatility on markets is ever-present, these very uncertain conditions are not discouraging some companies from going down the public listing route.

From 1 July to the end of October a total of 24 new companies have listed on the ASX, and between now and the end of this year there will be another 20.

That will bring the total number of ASX floats undertaken this year to 56, which will be only slightly down on the 63 listings completed in 2019.

Global IPO activity spikes

This uptick in IPO activity is certainly not confined to Australia.

On a global level, the three months to the end of September was the most active third quarter in the last 20 years by investor proceeds, and the second highest third quarter by deal numbers.

Data from financial services firm EY shows the acceleration in activity over the quarter brought the total number of IPOs completed this year to 872, with total investor proceeds rising by 43 per cent over the previous year to $230 billion.

In the U.S., the boom in new market listings in the second half has been largely driven by technology, industrials, and health care IPOs. These sectors continue to generate very strong investor interest.

So, what is driving this IPO boom?

In the face of record low interest rates, investors worldwide are hunting for higher returns and increasingly are shifting their cash holdings into other asset classes including equities.

Last week the Reserve Bank of Australia followed the line of many other central banks by cutting our official cash rate to just 0.1 per cent. Cash returns after inflation are negative.

As such, record investor inflows are continuing into exchange traded funds (ETFs) and managed funds, with capital primarily coming from people wanting to achieve strong asset diversification through broad exposure to equity and bond markets.

The IPO boom, on the other hand, is being fuelled largely by speculators who are seeking out short-term profits.

Australia's 2020 IPO scorecard

ASX trading data confirms that many IPO investors are buying into companies during their initial offer process and then selling out very quickly, often on the first day of listing.

This is obviously high risk. Although quick gains can be made, so can quick losses.

An analysis of the IPOs undertaken on the Australian share market so far this year shows that while some companies have generated strong first-day gains for investors, others have done the opposite.

In fact, less than 20 per cent of Australian IPOs this year are trading above their opening day closing price. Several companies, which recorded strong first-day gains, are now in negative territory.

Overall, more than 40 per cent of the companies that have listed on the ASX this year are currently trading below their initial offer price.

Other new listings, while they are trading above their IPO share issue price, have actually not matched the strong gains of the broader Australian share market over the time they have been listed.

A number of new ASX listings have strongly outperformed the broader market on a percentage basis, and several companies have more than doubled in price.

By contrast, an equal number of IPOs are trading more than 30 per cent below their share issue price.

Taking a long-term approach to IPOs

Many IPOs invariably do have a high level of risk and are prone to speculative trading.

What's important to keep in mind is that every listed company in the world – including the very largest - has at some stage come to their market through an IPO listing process.

As such, participating in an IPO can certainly form part of a broad, long-term investment strategy.

Just like any investment, it's crucial to undertake extensive due diligence before committing capital to an IPO. This includes reading the company's prospectus thoroughly and conducting other market research.

Even the very largest, established listed companies are susceptible to market and specific risks.

Which is why diversification, both within and across asset classes, is vital.

Rather than speculating on IPOs, many investors are now moving away from having individual company exposures and diversifying their investment risk through broad market ETFs and managed funds.

By Tony Kaye
Senior Personal Finance Writer, Vanguard Australia
10 Nov, 2020
vanguard.com.au