What is IPO trading and how to trade IPOs?
What is an IPO?
An IPO (Initial Public Offering) is an important milestone for a firm. When a company goes public, it opens its doors to the public for the first time, inviting investors to gain exposure to its shares.
A private company could decide to go public for different reasons. Some companies are looking to generate capital in order to grow and attract talent, while others want to raise their public image, pay debts, or monetise assets.
IPOs are often associated with technology startups (sometimes known as “tech unicorns”) in their transition journey from startup to corporate. The largest tech IPOs in IPO history include Facebook, Uber, Airbnb, Twitter, Rivian Automotive, and Snap.
The world’s biggest IPO to date is the Saudi Aramco Initial Public Offering on the Riyad Stock Exchange in 2019 which raised a record $29.4 billion, by selling 3 billion shares at $8.53 per share.
How does an IPO work?
When a firm decides to go public, it first needs to decide where to list. Each publicly traded company may trade shares on a- usually- domestic stock exchange that will provide the liquidity to buy or sell shares. Different exchanges have different standards and requirements that companies should meet.
Leading exchanges in terms of proceeds worldwide include*:
- Nasdaq
- New York Stock Exchange
- Shanghai Stock Exchange
- Hong Kong Exchange
- London Stock Exchange
*Source: Statista.com
In its ‘pre-IPO’ stage, the company will have typically grown to have a value of more than $1bn and have scaled with a smaller number of shareholders that could include early founders and investors as well as professional investors like venture capitalists.
The IPO listing process
An IPO could take from six months up to a year to complete. It begins by finding an Underwriter who will lead the IPO process. The five steps in the IPO process are:
- Find an Underwriter. A company chooses an investment bank that will act as a broker between the issuing company and the investing public.
- Due diligence. IPO Underwriters and attorneys investigate the private company’s financials and the potential risk factors of going public.
- Pricing. On the day before the effective IPO date, the issuing company and the Underwriter decide the offer the price at which the shares will be sold, and the number of shares available for sale. This determines the IPO valuation.
- IPO launching/Stabilising. The investment bank is able to buy and sell shares to keep the price favourable for their client.
- Transition. The investment bank gives control of the share price to the public market. The price of the stock now depends entirely on the market.
Can an IPO fail?
When an IPO is successful it can raise a huge amount of capital and as a result, help grow the company’s public profile. It could give a company the level of exposure it needs to increase its profits and sales.
But what happens in the opposite scenario, when an IPO fails? This is certainly a possibility. An IPO failure can happen when the stock price dips below the initial opening price. Prices could rise again or continue to drop, sometimes hitting rock bottom. Examples of IPOs that were not so successful include Robinhood and Etsy. Shares of Robinhood fell 10% within 10 minutes of the opening of trading and the company ended its first day of trading at a $29 billion valuation, which was well short of the $35 billion valuation that it initially expected.
What is IPO Trading?
When you invest in an IPO you buy and own shares of a company. When you trade an IPO you go long (buy) or short (sell) on share price movements with CFDs. This means that you have the option to open a short (sell) position on IPO shares depending on your strategy and the IPO's expected result.
How to trade IPOs
Trading an IPO is a process similar to trading any other asset. With Axi you can get exposure to IPO shares as soon as a company is listed on a specific exchange and prices from the exchange become available to our liquidity providers.
- Login to your live MT4 trading account (sign up with Axi if you don’t have one)
- Navigate to market watch, right click and select ‘show all’. Search for the company going public.
- Choose your position and size and go long or short on share prices. Don’t forget to set risk management tools like a stop loss and take profit order.
3 tips for IPO trading
On its listing day, a stock is likely to be volatile as investors are looking to reposition themselves or join in the action.
- Short selling is an option that many traders consider if they think a newly listed company is overvalued.
- If you see potential in the stock, this can be an opportunity to buy at a lower price than its listing price.
- For day traders, waiting for the market's initial reaction is a common strategy used to determine whether it is to the upside or downside.
3 things to consider before investing in an IPO
Before investing or trading an IPO, it’s useful to do your research about the company. Here are some questions to ask before investing:
1. How much is the IPO valued?
There are some important factors that determine the price of shares offered in an IPO. Those include the company’s annual revenues and its general financial performance, the number of stocks issued, and the company’s business model. The potential growth rate could be another factor to consider. There is always the risk that an IPO could be overvalued.
2. What risks are involved?
Investors must make sure that they understand the risks involved in an IPO, such as for example that the listing could be highly volatile. IPO shares could sometimes be riskier than established stocks because of the unpredictability of the listing or market volatility. Another potential risk could be that investors might not be allotted shares in the first place if an IPO is oversubscribed. This, of course, is only relevant when you buy the underlying shares, instead of trading them.
3. Do you have sufficient information about the company?
What is the true value of the company and how much does the hype surrounding its name affect your decision to invest? An IPO could be the opportunity to get involved in a hopefully growing business, but you should first do your own research and decide if this is a good investment.
The 2023 IPO outlook
2022 was a turbulent economic year resulting in a major slump in Initial Public Offerings. Global IPO volumes fell by 45% following increased market volatility, high inflation, and rising interest rates.
Will the IPO market recover in 2023? Many well-known companies that initially planned their IPOs in 2022 could finally go public in 2023. Those include Reddit, Revolut, Monzo, Kraken, Arm Holdings, Starling Bank, Databricks, and more.
You can trade them with Axi as soon as they are listed on the chosen stock exchange and prices become available.
Sources: EY, Bloomberg, SoFi
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The data is sourced from third-party providers. This information is not to be construed as a recommendation; or an offer to buy or sell; or the solicitation of an offer to buy or sell any security, financial product, or instrument; or to participate in any trading strategy. It has been prepared without taking your objectives, financial situation, or needs into account. Any references to past performance and forecasts are not reliable indicators of future results. Axi makes no representation and assumes no liability regarding the accuracy and completeness of the content in this publication. Readers should seek their own advice.
