When a private company announces its intention to go public, and the target price range is announced shortly thereafter, investors anxiously await the offering hoping to be able to get in early on a hot new stock.
However, the more anticipated the IPO is, the harder the feat will be. High demand for a new stock often causes the stock to open for trading well above the IPO price and then zoom even higher. This is great if you buy at the IPO price and sell at its day-one peak. But for the average investor, this game often works differently and can be a much riskier venture due to common practices and procedures which exclude Main Street investors from most of the fun and subject them to more of the risks involved due to their later arrival to the stock.
Of course, buying at the IPO price does not guarantee a pop. In fact, the IPO is actually a pretty risky time to purchase a stock. For all we know, that could be the highest price that the stock ever trades.
So why would you want to buy at the IPO? Well, because if things go according to plan for the company, it should represent the lowest price that it ever trades at. So, in that sense, whether you want in on the IPO for a potential first-day pop, or if you want to hold for the long-term, the investment should - in theory - allow the investor to one-up their finance and econ professors and buy lowest and sell whenever.
How Do You Buy at the IPO?
Buying stocks at their IPO prices typically requires a bit of planning, a lot of luck, and even more wealth.
For starters, retail investors will need a brokerage account with the company that participates in the selling of shares, either after taking the company public itself or as a selling group. Larger banks and brokers will have more access to IPOs than smaller ones, thus granting more potential IPO opportunities to its customers. So if you want a chance at getting in the next-best IPO, you really need to do your due diligence and have your brokerage account with one of the investment banks running the IPO.
From there, investors will need to submit an IPO Eligibility Form in accordance with FINRA Rule 5130. This is where wealth comes to play. In order to be approved to receive a block of stock at the IPO, you must have a large amount of money in your brokerage account. The bare minimum differs from place to place, but typically requires at least six-figures in your trading account.
At TD Ameritrade, investors need at least $250,000 or 30 completed trades in the last three months. Additionally, they must meet less defined requirements in respect to their investment objectives and their financial status. Meanwhile, Fidelity requires $100,000 or $500,000 in household assets (excluding some illiquid assets such as your 401k) and be a Premium or Private Client Group customer.
If you still qualify and are thinking about investing in an IPO that you find interesting or exciting, then you will want to read the company's prospectus, which describes the company, why it's going public, what it plans to do with the money, risk factors and other important information. After reading the prospectus, the investor applies with a Conditional Offer to Buy (COB), or indication of interest (IOI), or whatever you broker decides to call it.
If approved for a block of shares, you will confirm your order after the price is set the day before trading begins and the shares will be in your account before the market opens on the stocks first day. But before you approve the shares, you should ask yourself why you want to buy the stock in the first place..
Before making it to your account, large institutions had to pass on that investment, which should immediately throw up a red flag for any investor. On top of that, the more shares that you get approved for, the more other investors declined to buy. So while you may feel incredibly lucky to have been allotted those shares, it may yet prove to be a well-marketed Trojan horse that is ready to attack your portfolio when you least suspect it.
So Should You Buy at an IPO?
Well, if you qualify, it will depend on your risk appetite and how much you trust that the shares making it to your portfolio aren’t only making it there because of a lack of interest in the stock.
For investors wanting to invest in new companies for their high-growth potential, but not wanting or able to be an IPO test dummy, another option can be to wait for the lockup period to end before buying. The lockup period is a period of time that lasts anywhere from three to twenty-four months which prohibits the company’s insiders from selling shares.
By waiting for the insiders to be able to sell, investors can get a good look into the employee confidence in the stock’s price. If it’s overvalued, they’ll let you know by selling. If they are loving it, it’ll be buy-buy-buy.
