Investing in IPOs? Here are key risks you should know

Updated : January 28, 2021 06:21 AM IST

An initial public offering (IPO) is the process of offering shares of a private company to the public in a new stock issuance.

This allows the company to raise capital from public investors who invest in IPOs in exchange for shares in the company.

An initial public offering (IPO) is the process of offering shares of a private company to the public in a new stock issuance. This allows the company to raise capital from public investors who invest in IPOs in exchange for shares in the company.

An investor can apply for an IPO through his/her bank account or trading account.

Recently, IPO has been a trend for such short-term gains and hence, investors seeking to earn big through them, often find themselves vulnerable to the following risks:

Expensive Valuation

According to Pranjal Kamra, CEO of Finology, companies generally come with IPO in a bull market when the market has ample liquidity and the prices are skyrocketing.

"Due to high optimism in the market, most of these IPOs come with an expensive price tag and this is the reason many IPOs underperform the benchmark in the long run,” Kamra believes.

Keshav Lahoti, associate equity analyst at Angel Broking Ltd seconds Kamra’s thoughts.

"Normally, companies launch IPO when the stock market is at a high valuation, so they get good valuation while launching the IPO. It is possible that on a listing day, IPO can list below issue price, so there's a possibility that investors can suffer a heavy loss," he warns.

Volatility

As per Lahoti, IPO stocks are quite volatile during the initial days of the trading and they don't have any limit when trades need to be frozen on such stocks.

Inadequate data available to judge a company

Due to the less information available, Kamra says it becomes very difficult to judge a company. Though the information related to financials is available in the DRHP, this may not be adequate to evaluate the management’s efficiency.

No guarantee of allotment of shares

According to Kamra, though some of the IPOs offer good listing gain to investors due to high demand in the market, there is no guarantee of allotment of shares.

The retail quota is generally very less and in the case of oversubscribed IPO chances of allotment are rare. Even if investors get lucky enough to win a lot, Kamra adds, the absolute gain is enough to make a significant financial impact.

"Therefore, the rewards are very minimal to the risk taken while investing in an IPO," he cautions.

Disclaimer: The views and investment tips expressed by investment experts on CNBCTV18.com are their own and not that of the website or its management. CNBCTV18.com advises users to check with certified experts before taking any investment decisions.

Investing in IPOs? Here are key risks you should know

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