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Stabilization, Syndication, and Pricing of IPOs

Published online by Cambridge University Press:  06 April 2009

Bhagwan Chowdhry  and
Vikram Nanda
Bhagwan Chowdhry
Affiliation:
Anderson Graduate School of Management, 110 Westwood Plaza, University of California-Los Angeles, Los Angeles, CA 90095–1481
Vikram Nanda
Affiliation:
School of Business Administration, 701 Tappan Street, University of Michigan, Ann Arbor, MI 48109 and University of Southern California.
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Abstract

We argue that in the after-market trading of an IPO, the underwriting syndicate, by standing ready to buy back shares at the offer price (“price stabilization”), compensates uninformed investors ex post for the adverse selection cost they face in bidding for IPOs. This dominates ex ante compensation by underpricing. The reason is that stabilization exploits ex post information about investor demand whereas underpricing must be based on ex ante information. However, liquidity and syndication costs constrain the use of stabilization which, in equilibrium, generates some underpricing as well. We develop a model that formalizes this intuition and generates several empirical implications.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 31 , Issue 1 , March 1996 , pp. 25 - 42
Copyright
Copyright © School of Business Administration, University of Washington 1996

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