The bid/ask spread averaged just 6 cents in the first few days of trading, and at the very peak of the insane premium, the spread widened out to “only” 19 cents. Remember that 6 cents on $20 is about 30 basis points, and in the land of IPOs, that’s pretty reasonable. Obviously, issues like Facebook trade a penny wide all day long, but consider firms like Intrexon (XON), the smallest holding in IPO:
Trading in XON could best be described as “sloppy,” as witnessed by spreads that, while averaging just 20 basis points, can spike as high as a few percent.
The moral of the story here is simple: Beware the hype.
There was no logical reason to pay more than fair value for IPO on launch day.
The reason it traded to a premium, most likely, is that the sole AP for the fund, Knight, was caught off guard. The underlying stocks are plenty liquid, so there’s no reason to think Knight couldn’t make more shares, and obviously, with $31 million now in the fund, Knight indeed made more shares in a hurry. So the premium present in that first day’s trading was entirely irrational, and predictably collapsed.
To anyone who bought at that irrational price, all I can offer is my condolences. And perhaps a reminder that, in the end, fair value always wins.
At the time this article was written, the author held no positions in the securities mentioned. Contact Dave Nadig at [email protected].