The Market Performance of Initial Public Offerings in the Istanbul Stock Exchange

Abstract

This study examines the long-standing IPO puzzle in the Istanbul Stock Exchange (ISE) by using new factors affecting the performance of IPOs such as source of shares in the IPO (new issue or sale of large shareholders), allocation of shares and dispersion of investors (ownership of foreign investors, number of investors, and breadth), as well as existing factors such as market conditions (hot/cold), underwriters' reputation, and firm characteristics (issue and firm size, E/P, and B/M ratios). Our results differ from previous studies at least three ways. First, magnitude of underpricing is significantly lower, while underperformance is higher than other studies. Our strong evidence supports the existence of the underpricing by positive initial excess returns (5.94%) and the long-term underperformance up to three-year holding period (-84.5%) in the ISE. We explain this with heavy competition among investment banks to mandate the IPOs in a market, where the number of IPOs is very limited, which leads to overvaluation and so underperformance in the long run, while limiting abnormal initial returns. Second, underperformance starts much earlier than in other markets, and has even been known to commence at the end of first month following the IPO because of myopic behavior of investors, who mostly seek short-term returns in a very volatile and inflationary environment. Third, we show that underperformance of IPOs disappears for IPOs made in a cold market, and those made through the sale of large shareholders. Allocation of shares in an IPO and size also impact after-market performance of shares. The broader and the more even allocation of shares, the smaller both the long-run underperformance and the underpricing are. Finally, a temporary large and positive initial return experienced by firms issuing stock to the public for the first time turns out to be hazardous to the wealth of their shareholders in the long-run. However, the mystery of these phenomena requires further investigation by researchers in the future until a complete and satisfying explanation is found.