Is investing in an initial public offering a good idea?

Key Takeaways:



Media attention and high valuations around an Initial Public Offering (IPO) don’t always guarantee a favorable investment.


Investing in IPOs may be better suited for investors with longer-term time horizons and a willingness to hold shares rather than sell them.


Individual investors can purchase IPO stock directly through a brokerage account or by investing in small-/mid-cap growth mutual funds.




IPO Investment Myths:



Myth: If the public is excited about an IPO, I should invest


Reality: Positive attention doesn't guarantee a good investment. Extreme valuations may signal unfavorable risk-reward ratios, and a lack of a proven track record in the public domain adds risk.



Myth: IPO investments will yield higher rewards than waiting to invest


Reality: Newly public companies are often high risk and volatile. Financial results from IPOs are mixed, and high valuations may become problematic during economic slowdowns.



Myth: If a company is going public, it must be financially stable


Reality: Audited financials in an IPO don't ensure future stability. The company's fortunes may be influenced by external factors beyond its control.



Myth: Only individual investors are awarded IPO shares


Reality: Institutional investors or fund managers are primary purchasers. Investment bankers prefer placing shares with long-term investors, creating share price volatility in the open market.



Myth: Investing in an IPO gets me in on the ground floor


Reality: IPO investors aren't the first to have access; they are among the first public owners. There's a difference between the IPO offering price and the price when shares start trading.





Understanding IPO Realities:



Mark the calendar for the date when shares become available for purchase.


Consider investing in small-/mid-cap growth mutual funds as an alternative to direct IPO stock purchases.


Terry Sandven's advice for potential IPO investors: Buyer beware. Understand the company, growth drivers, competitive landscape, valuations, and specific risks.


IPOs may be better suited for investors with longer-term time horizons who can bear potential substantial losses due to implied volatility.