Hot and Cold IPO Markets

Abstract

The market for unseasoned equity has the unusual and distinguishing feature of periods of concentrated activity in terms of both volume and underpricing. This paper formally documents the existence of such periods using a regime-switching model that dates transitions between hot and cold states. A number of hot periods are identified over a 20-year period using a variety of IPO activity measures that capture different aspects of new issue volume, proceeds and underpricing. The study documents a leading relationship between underpricing and IPO volume of up to six months. This relationship between underpricing and IPO volume of up to six months. This relationship supports the contention that the decision to issue is a function of current underpricing. We hypothesise reasons for this result and find supportive evidence through a VAR analysis that reveals the influence of stock market and business conditions. The results have implications for the information signal contained in current market conditions and the role of issuers, underwriters and investors.