Enthusiasm often runs high whenever a new company prepares to enter India’s public markets, but experienced investors know that participating in an NSE IPO involves genuine risks that deserve careful consideration rather than being overlooked amid market excitement. Every IPO, regardless of how much attention it generates or how established the company appears, carries a distinct set of potential pitfalls that first-time applicants in particular should understand before committing their capital. This article examines the primary risks associated with participating in new public offerings and how investors can approach these considerations thoughtfully.
Valuation And Pricing Concerns
One of the most obvious risks for new investors is the possibility that the shares are priced aggressively on the back of the fundamentals. Unlike established listed companies where a price has been discovered from the long history of trading on the market, newly listed companies have been priced by valuing similar companies on the market and their future growth trajectory, both of which involve a lot of subjectivity, and could prove incredibly misleading as soon as the shares begin trading and are further scrutinised.
This comes into play particularly when markets are bullish, where companies feel emboldened to price closer to the top value range with the hopes that they can utilise the market’s enthusiasm to sell more shares at higher prices.
Investors who apply on the back of this market exuberance, without assessing whether the fundamentals back up the price being asked in the prospectus risk buying into something that simply doesn’t justify the money being poured into it.
Limited Operating History And Information Asymmetry
Many of the companies that are entering the public markets are brand new businesses in entirely new sectors, which have little to no operating history and public financials in comparison to other established listed companies on the stock exchanges. This makes it significantly harder for investors to judge the risks and rewards of the business in different economic cycles than what is currently being experienced, since the data simply doesn’t exist.
While a lot of the information asymmetry is ironed out during the due diligence process, there is still a fundamental disconnect between the people running the company and outside shareholders in terms of knowledge of the business and its operations.
Despite the regulatory disclosure process, investors should take heed that their information is limited in comparison to company executives who’ve been running and funding the business long before it was discovered by the public markets, so they should take extra caution when applying for these kinds of offers. This goes double for reading the fine print of the prospectus itself, highlighting specific risk factors that the company has identified as pertinent to the business and not just relying on the press and puff pieces published by the business, which will inevitably downplay or entirely ignore the risk factors in favour of presenting the best value proposition possible.
Post-Listing Volatility And Liquidity Considerations
Once trading commences, the shares can experience extreme volatility as the market tries to price the shares appropriately based on real supply and demand forces, rather than the price discovery process which takes place during the bidding period.
This volatility can be exacerbated during the days and weeks following the launch as early buyers (those who’ve applied directly for shares in the hope that the price will rocket upwards shortly after trading commences) sell their holdings to realise gains after seeing little or no increase in value due to the aggressive pricing during the subscription period.
Liquidity can also prove to be a problem in some instances, particularly with smaller companies where the amount of shares available for trade is significantly smaller, resulting in a lower level of market participation, with bigger gaps between the bid and ask price.
With the spectre of market volatility and lower liquidity in mind, sensible investors will conduct a proportionate level of research into the fundamentals of the business making up the offer, as well as not overinvesting in the hope of seeing quick returns. By balancing realistic expectations of the offer with the standard level of risk analysis that should be undertaken with any stock purchase, India’s booming primary market can be navigated safely by even the most cautious of investors.
What You Need to Know
- Participating in an NSE IPO involves risks that require careful consideration rather than being overlooked in market excitement.
- Newly listed companies often have shares priced based on subjective evaluations, which may not align with their actual fundamentals.
- Many companies entering public markets have limited operating history, making it challenging for investors to assess risks and rewards.
- There is a knowledge disconnect between company executives and outside shareholders, leaving investors with limited information about the business.
- After trading begins, shares can experience extreme volatility due to real supply and demand forces, often exacerbated by early buyers realizing gains.
- Liquidity issues may arise, particularly with smaller companies, leading to significant gaps between bid and ask prices.
