On the Demand Elasticity of Initial Public Offerings: An Analysis of Discriminatory Auctions

Abstract

We analyze 52 Taiwanese IPOs that were conducted as discriminatory auctions (you pay what you bid) between December 1995 and October 1998. This unique dataset, which complements the Kandel, Sarig, and Wohl (1999, KSW) nondiscriminatory (uniform-price) IPO auction dataset in Israel, includes the whole demand schedules. To the best of our knowledge, it is the first time that the whole demand schedules for discriminatory auctions are described and analyzed. Consistent with KSW, the elasticity of demand for IPOs in Taiwan is relatively flat at the auction clearing price. This appears to imply that the high elasticity of demand for IPOs may not be affected by auction methods. In addition, our unique data allow us to test three hypotheses that appear to explain the cross-sectional variation of demand elasticity. The shareholder heterogeneity hypothesis suggests that the demand elasticity is negatively correlated with the heterogeneity in demand, while the competition hypothesis predicts that the demand elasticity is positively correlated with competition. The synthesized hypothesis proposed in this paper suggests that the demand elasticity is correlated more with competition than with heterogeneity for the winning bid schedules, whereas the relation is reverse for the losing bid schedules. Our results appear to be consistent with all three hypotheses. We also find that the average winning bidders earn a significant average abnormal return of 7.83% in the post-market and that the post-market abnormal return is positively correlated with the demand elasticity and the idiosyncratic risk of stock returns. Finally, there is evidence that informed investors have incentives to shade their demand in IPOs to avoid the winner's curse. The most aggressive bidders (the top 5% of the winning bidders) on average incur only a small loss of 1.64% (not significant) in the market-adjusted initial returns.