IPOs: Boom or Bust?

Hot trend alert: 2020 could be the biggest year for initial public offerings (IPOs) in decades. 

The stock market had one of its best summers in recent memory. At the same time, over 100 companies went public from June to August in the busiest stretch for IPOs since 2000. Popular tech names like DoorDash, Airbnb, and Bumble could jump on the bandwagon soon. This week, an unprofitable software company named Snowflake pulled off a $3.4 billion IPO, the biggest of the year.  

Everyone loves a good IPO these days, but are they worth the hype? Sure, there have been booms, but there have also been busts. We’ll give you the scoop. 

The Basics 

Let’s back up a little. An IPO occurs when a private company joins the stock market by selling a batch of shares to the public, which includes individual investors like you and me. It’s like a company’s grand entrance to society, and it can involve partying on the New York Stock Exchange floor and ringing the opening bell. 

Click here to learn more about the basics of IPOs. 

But it’s not just about the day one festivities. For companies, going public could be a way to generate more spending money for the firm. For executives, it can be a million-dollar payday. For investors, it may be a chance to get into a young, promising company early. 

Overall, it’s been an especially good year for all parties involved. This year, about 73% of all IPOs have climbed on their first day of trading, including every IPO larger than $1 billion.  

Boom or bust? 

But going public isn’t a guaranteed moneymaker for anybody. You tend to hear about the companies who make it big in the stock market. However, like many things in life, your chances of finding a successful IPO are closer to a coin flip. About half of U.S.-based stocks that went public from 2015 to 2019 were trading below their IPO prices a year later. Those stocks include well-known companies like Uber, Fitbit, and Blue Apron – all of which were still below their IPO prices as of September 16.  

Snowflake has even proven to be a wild ride just two days in. On September 17, shares dropped 10.4%. 

Even the most successful stocks aren’t instant hits. Facebook, one of the best-performing technology stocks this year, flopped out of the gate when it went public in May 2012. Facebook’s shares, which started trading at $38, fell as low as $18 in August 2012. In fact, if you bought into Facebook’s IPO, you would’ve had to hold the stock for 15 straight months before you saw the shares climb above $38 again. 

For all the flops, there are still plenty of success stories. Some IPOs have knocked it out of the park. Hilton Worldwide, a hotel management company, had a $2.4 billion IPO in December 2013 that doubled on the first day. Since then, Hilton’s shares have more than quadrupled from the IPO price of $20. There are also the Amazons and Apples of the world, which have soared since they went public decades ago. 

It’s just difficult to tell which IPOs will be booms or busts. Private companies typically don’t disclose much financial information, and we usually don’t know much about management ahead of time, so it’s tougher to decide if it’s worth buying in before a stock goes public.  

In general, consider buying IPOs for the long haul. Like dating, it may take a new public company and its investors some time to get to know each other. 

SPACs 

These days if we’re talking about IPOs, we need to chat about Special Purpose Acquisition Companies (SPACs). About half of the companies to undergo IPOs since the end of June have been SPACs, or firms that exist solely to buy other companies with the money they’ve raised from investors.  

SPACs can be a good way to get a piece of companies you can’t normally trade on the stock market. But buyer beware: Many of these SPACs don’t own any companies yet. That means everyday investors have to rely on the SPAC’s sponsors to pick reliable businesses. As Forrest Gump would say, they could be like a “box of chocolates.” You never know what you’re going to get. Regardless, they’ve become popular investments this year. 

Join the party? 

The IPO party could rage on for a while, but we urge you to do your homework. IPOs aren’t always home runs despite the success they’ve enjoyed this year. If you do go for an IPO, try to give it some time instead of trading the ups and downs. 

We’re also side-eyeing the surge in IPOs. While IPOs can show confidence in the market outlook, a hot IPO market has also signaled an overheated stock market in the past (hello, tech bubble). Companies may just want to join the party before it’s over. And if it ends (and the market falls), IPOs could be the first to drop. 

Callie Cox, senior investment strategist, contributed to this article.

Lindsey Bell is Ally’s Chief Investment Strategist, responsible for shaping the company’s point of view on investing and the global markets. She is also President of Ally Invest Advisors, responsible for its robo advisory offerings. Lindsey has a broad background in finance, with experience on the buy-side and sell-side, in research and in investment banking and has held roles at JPMorgan, Deutsche Bank, Jefferies, and CFRA Research.

Lindsey holds a passion for teaching individuals how to become successful long-term investors. She frequently shares her knowledge as a guest on national news outlets such as CNBC, CNN, Fox Business News, and Bloomberg News. She also serves on the board of Better Investing, a non-profit organization focused on investment education.

The opinions expressed here are not meant to be used as investing advice. For more information, visit our website.