Dhirendra Kumar talks about the recent IPO frenzy and explains if one should invest in IPOs at all
For the benefit of our viewers, what exactly is an IPO? And what explains this craze about IPOs?
Initial public offer. So companies are set up, somebody puts in money, and he wants more money to grow, and he wants investors to invest money in that. Or, a company is set up, somebody has invested money, and now he wants to sell his shares. These are the two ways in which a company goes public - selling an existing set of shares by some shareholders or getting new capital into the company. And a company going public for the first time, there is great unawareness or anxiety or curiosity, or the outlook might be bright or outlook might be unknown. And if the outlook is bright, if a lot more people are optimistic about the future of that company, many people will invest in it. And the supply is defined, supply is limited. If that is the situation, there is expectation that it will trade at a huge premium to its issue price. And that is why the lottery element comes in.
And it is also because of the history. In the 80s or 90s, the government used to set up the price of the companies going public. There was something called the Controller of Capital Issues - they will actually decide what the price of a company will be based on a formula. That formula was such that when those companies used to get listed, it always used to be substantially higher than that. So people fell into habit - apply for an IPO, and if you get it, it's good news. No longer. Now in 50 per cent of the IPOs, people lose money, if not soon, after listing. Then thereafter. So, the IPO game has changed, there's great fun in investing in IPOs. But I think one should not have fun in investing. You can either have fun or you can either make money - that is my general understanding. And once in a while you make money.
So why do you say that IPOs are risky ?
IPOs are risky because of a variety of things. These are new companies. Many of the IPOs about which investors are excited are so new, and they don't make money. Not much is known about the company and you have to keep money in readiness to invest in those. It is entirely a function of getting an IPO allotment. So there is an element of lottery. 500 people will invest and only 100 people will get allotment, there could be a situation like that.
But more importantly, I would like a thoughtful investment to be part of some process, some method. It should be part of your habit. And IPO is something which is seasonal because good times - lot of companies go public because that is the time when investors are excited about it. Bad times - they are not. It can't be part of your regular investment plan.
So individual investors should not invest in IPOs?
You will not miss out on anything, if you actually ignore IPOs. Simply because it's not going to make a difference. But it will take a lot of your attention and you'll be so excited about it. Do your boring SIPs. Carry on with your boring SIPs.
Also, discouraging something people are excited about does not work. So I would say do IPOs, but think of it as your fun allocation. Make that account separate, make that bank account separate and it should not be a meaningful amount and it should not be mainstream of your personal finances.
We have a viewer question - Nilkamal asks, should long-term investors have debt allocation in their portfolio and why?
Long-term investors should have debt allocation only after they have accumulated something meaningful. Every investor should have fixed income, and short-term investments should be in fixed income only, should have debt investments only. Long-term investment should be in debt entirely to bring stability to your portfolio. If you don't do that, you will get nervous. If you don't invest in debt, even in your long-term portfolio, the problem is that you will not be able to capitalise on the madness of the market which actually goes crazy once in a while. You saw it in March 2020. If you were carrying your long term portfolio of 50 years, you are unlikely to need that money and you are likely to leave a legacy for your family or whatever. If you don't have that allocation depending on your choice, the problem is that when those big opportunities come, you will not be able to capitalise on that. And those rebalancing will substantially optimise your return by a methodical process.
When markets go down, your equity values go down and 100 per cent will go down. So, one is that it will give you a sentimental hurt, you will be anxious, and nobody likes it even though you don't need the money. The second is that you will be able to use it as an opportunity.
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