IPO Boom: How FOMO is driving short-term gains, long-term risks

Bajaj Housing Finance had a bumper opening on its listing day on September 16, with the stock closing the day at ₹165, which was 136% higher than its issue price of ₹70.

The same story played out with PN Gadgil Jewellers on its listing day on September 17, with the stock closing at ₹793, 65% higher than its issue price of ₹480.

In fact, 2024-25, the current financial year, has been a year of bumper opening days for companies launching their initial public offerings (IPOs) and then listing on the stock market. Data from the PRIME Database published in the_ Business Standard_ suggests that the listing day gains during the year have averaged 35%, egging more and more retail investors to invest in IPOs.

This raises several important points.

1. The demand for IPOs amongst investors has been huge. Bajaj Housing Finance was oversubscribed close to 64 times. PN Gadgil Jewellers was oversubscribed more than 59 times. And Premier Energies was oversubscribed more than 74 times. Prime Database suggests that the oversubscription in IPOs in 2024-25 has averaged 48 times. What does such an oversubscription lead to? It leads to the fear of missing out or FOMO morphing itself into an investment strategy. Now, due to oversubscription, most investors who apply for an IPO do not get an allocation. These investors, who fear missing out on the gains, try buying on the listing day, sending the demand for the share and its price soaring. In the process, FOMO has become a very popular investment strategy. But this is something that is not good for investors and it will start hurting them sooner rather than later.

2. What does FOMO do? It leads to more investors feeling that huge gains can be made by buying shares through an IPO and then selling out on the listing day. This keeps the demand for IPOs going and more issues keep hitting the market. With that, the quality of companies hitting the market goes down and/or the price that they demand in comparison to their earnings for selling their shares to the public keeps going up.

3. Such is the euphoric state of the market that even bankrupt companies have managed to sell shares through follow-on public offerings (FPOs) and raise a good amount of money. In an FPO, a company that is already listed on the stock exchange sells additional shares to investors.

4. In fact, individual investors, on average, end up selling half their shares in the week after a stock lists. Trying to cash in on listing gains promotes short-termism in investing. Investors who make money by flipping IPOs end up thinking that good money can be made from stocks by investing in stocks for the short-term. It also leads to the feeling that making money from stocks is easy. And this isn’t a good thing because almost anyone who becomes wealthy from investing in stocks typically tends to stay invested for the long-term when the real power of compounding tends to come into play.

5. Also, it is worth remembering that although strong demand for an IPO can result in significant percentage gains on listing day, the limited likelihood of securing an allocation reduces the potential for absolute gains. And getting wealthy from investing is all about good percentage gains in the long-term leading to huge absolute gains. This is the dynamic at the heart of investing which many retail investors who currently fancy investing in IPOs do not seem to get. The recency effect or only taking those things that have happened recently into account while making an investing decision is very high.

6. This current IPO fad also brings what economists call the fallacy of composition into play. The fallacy of composition arises when it's incorrectly assumed that what benefits an individual is also likely to benefit society or a group as a whole. Investors who receive shares in an IPO with high demand and quickly sell them on or shortly after the listing day, make a profit through this process. So, flipping an IPO seems to make sense at an individual level. But at a societal level, it leads to demand for newer IPOs, and in the process, the quality of companies looking to raise money through IPOs deteriorates, or the issue prices go up further. That’s how the fallacy of composition comes into play. Also, IPO flipping leads to more short-termism in investing which hurts in the long-term.