Chapter 11: IPOs, SPACs, and shiny new things
The voicemail Hugo received on a Tuesday in March was warm, brief, and flattering. His broker had "managed to secure" him 1,500 shares of Juniper Robotics at the offer price of $21, ahead of Thursday's IPO, and needed an answer by noon tomorrow. That works out to $31,500 of a company Hugo had read about exactly twice, offered with a deadline, a compliment, and the word "exclusive."
Hugo gets a call like this once or twice a year, because dentists with $1.4 million invested are exactly who these calls find. This chapter explains what the call actually offers. It is the chapter in the guide where the seller's-pitch test earns its keep: before any new thing's promise, examine its economics, and trace who gets paid for your excitement.
How an IPO actually works
Chapter 1 defined an IPO as the moment a private company first sells shares to the public. The mechanics matter, because the structure decides who the first day rewards.
The company hires investment banks, called underwriters, to run the sale. For several weeks the bankers march the company's executives through meetings with large institutional investors: pension funds, mutual funds, hedge funds. The night before trading begins, the bankers set the offer price and decide the allocation, meaning who gets to buy at that price. Nearly all of it goes to institutions and to the banks' favorite clients. The next morning, the stock opens on an exchange through the same auction Chapter 3 described, and everyone else gets to participate for the first time.
Run the numbers on Juniper Robotics. The company sells 20,000,000 new shares at $21, raising $420,000,000 before fees. On Thursday morning the opening auction prints $30.45, a 45% jump above the offer price. The financial news calls it a triumph, complete with a balloon drop at the exchange.
Where the pop actually went
That 45% day-one jump is called the pop, and it deserves a slower look than the balloon drop invites.
The institutions allocated shares at $21 are holding a $9.45 per-share gain by 9:31 a.m. Across 20,000,000 shares, that is about $189,000,000 of value, and it transferred before the first public trade. The company is on the other side of the transfer: it sold for $420,000,000 something the market valued at $609,000,000 the next morning. Bankers describe underpricing as the cost of a successful launch. The allocated clients describe it as a very good Thursday.
You are the third party in the picture. Buying at the open means paying $30.45 to someone who paid $21 the night before. The discount everyone is celebrating existed, and it was real, and none of it was available to you. The pop is a one-time transfer, settled before you arrived.
The allocation call, decoded
Which brings the chapter back to Hugo's voicemail, because at first glance an allocation call looks like a ticket to the good side of that transfer. The seller's-pitch test asks for the economics first.
The broker's firm earns fees from the deal, a percentage of the money raised, and it earns goodwill from the issuer by placing the shares smoothly. Hot allocations are scarce, and scarce favors get spent carefully: they go to the clients who generate the most revenue, which means institutions trading in the millions. A deal where the demand is strong gets rationed upward, away from individual investors. The only deals with shares left over for a dentist in the suburbs are the ones the big clients did not want in the first place.
So the call itself is information, and the information runs opposite to the flattery. If the deal were hot, Hugo could not get in. Since Hugo can get in, the question answers the pitch.
- The promise: "Get in at the offer price, before the pop."
- The economics: the firm earns fees on the raise, hot allocations reward its largest clients, and retail investors see only what rolled downhill past all of them.
- The decode: an allocation you can actually get is a deal the informed money declined. Scarcity sells the dream; the supply chain tells the truth.
Hugo called back before noon and asked the rep a single question: "If this deal is as strong as you're describing, how did 1,500 shares make it all the way down to me?" The rep talked warmly for about forty seconds and did not answer it. Hugo passed, wrote "Juniper, two earnings reports" in his calendar for September, and went back to his patients. Juniper popped 45% that Thursday, drifted for a month, and was trading under the offer price by Labor Day. Hugo keeps the calendar note anyway. He says the point of the rule was never predicting that slide; it was making the prediction unnecessary.
What new issues do next
One pop proves nothing, so look at the base rates. Jay Ritter, a finance professor at the University of Florida, has maintained the standard database on US IPOs going back to 1980. Two patterns hold across more than four decades of his data. First, IPOs systematically jump on day one: the underpricing is a feature of the process, repeated deal after deal, decade after decade. Second, the shine fades: measured over the three to five years after listing, IPOs as a group have historically lagged the returns of comparable established companies. The pop goes to the allocated; the lag goes to whoever bought afterward and held.
The lag makes sense once you remember who controls the timing. A company goes public when its owners and bankers decide conditions favor sellers: revenues shining, a hot sector, an eager market. You are buying at a moment chosen by the other side of the trade, which Chapter 3 taught you to notice. And new public companies sit at the steepest part of the Bessembinder skew from Chapter 2: a few become the giant winners, while many more fade, and at the open you have the least public evidence you will ever have about which kind you are holding.
The lockup clock
One more date belongs on your calendar. A lockup is the agreement, standard at 180 days, that blocks insiders and employees from selling their shares after the IPO. The Finvest Equity Compensation Guide tells the lockup story from the inside: an employee staring at frozen shares while a tax bill rides on a price they cannot touch. From the outside, the lockup is simply a known date when a large new supply of shares becomes free to sell. That is no guarantee the price drops there, but it is one more reason the first six months of a new stock's life tell you very little about its next ten years.
A direct listing deserves its one paragraph here. In a direct listing a company puts existing shares on the exchange without underwriters allocating a discounted block, and the opening auction discovers the first price for everyone at once. Nobody is handed a pop, which is precisely the appeal for the company's existing owners. From your side of the screen, the merchandise is unchanged: a brand-new public company with no reporting track record, deserving the same patience.
SPACs: the structure was the story
Between 2020 and 2022, hundreds of companies went public through a side door called a SPAC, a special purpose acquisition company. A SPAC is a shell with no business: it raises money from the public at a reference price of $10 a share, parks the cash in trust, and promises to merge with a real private company, usually within 24 months. The merger takes the private company public without a traditional IPO.
The detail that decided most outcomes sits in the founding documents. The SPAC's organizers, called the sponsor, typically receive shares equal to 20% of the company for a nominal payment. That grant is the promote, and it changes everything about whose risk is whose.
| Party | Cash in | Shares held | Value at $10 | Value at $5 |
|---|---|---|---|---|
| Public investors | $250,000,000 | 25,000,000 | $250,000,000 | $125,000,000 |
| Sponsor (the promote) | $25,000 | 6,250,000 | $62,500,000 | $31,250,000 |
| Total | $250,025,000 | 31,250,000 | $312,500,000 | $156,250,000 |
Read the right-hand column. If the merged company stumbles and the stock falls to $5, the public investors have lost half their money. The sponsor still holds $31,250,000 against $25,000 put in, a gain of 1,250 times, on a deal that cut its own investors in half. A sponsor with that payoff and a 24-month deadline faces an honest temptation: any merger beats no merger, because no merger means handing the trust back and tearing up the promote.
The record played out the way the structure suggested. The 2020–2022 SPAC wave took hundreds of young companies public on projections rather than results, and by 2023 most of those stocks traded far below the $10 reference price. The structure guaranteed the sponsor's economics. Everything else was a promise.
The honest exceptions
None of this means new companies are bad companies. Some IPOs compound magnificently for decades, and a handful of the market's greatest businesses rewarded even the unluckiest day-one buyer. Two things stay true anyway. At the open, nobody could tell those few apart from the hundreds that faded, and Chapter 2 showed how thin the winning tail is. And patience was nearly free: the great ones were still available a year later, two years later, after real quarterly filings had piled up on EDGAR for anyone willing to do the boring Chapter 4 reading. The fortunes made on famous IPOs came from the years of holding, almost never from the first afternoon.
That is the logic behind the simplest rule in this guide.
Never buy a new issue in its first months. Wait until the company has filed at least two quarterly earnings reports as a public business, roughly six months, which also lets the 180-day lockup pass. If the company is as good as the story says, it will still be good after you can read its results. If it only looked good before there were results, the rule just paid for itself.
Where people go wrong
- Mistaking the pop for a return you can get. The day-one jump rewards the allocated, who bought the night before. Buying at the open puts you on the paying side of that transfer.
- Treating an allocation offer as a favor. Genuine hot deals are rationed away from individual investors. An allocation that reaches you easily has been declined by people with better information and better access.
- Reading $10 as a floor on a SPAC. The reference price is where the trust started, never a support level. Most SPACs from the 2020–2022 wave traded far below it by 2023.
- Anchoring on the offer price. "It's below the IPO price" describes the marketing of the sale, never the value of the business. Price the company the Chapter 5 way or wait until you can.
Key takeaways
- The IPO pop is a transfer settled before the open: allocated institutions collect the discount, the company gives it up, and the opening buyer pays full price.
- An allocation call that reaches a retail investor is a signal in itself: hot deals get rationed to the biggest clients, so available shares are usually unwanted shares.
- Across four decades of Jay Ritter's data, IPOs jump on day one and have historically lagged comparable companies over the following three to five years.
- SPAC structure paid sponsors in almost every outcome: a 20% promote for a nominal sum, while most 2020–2022 SPACs traded far below the $10 reference by 2023.
- Lockups standardly end at 180 days. Waiting two earnings reports costs little, lets the lockup pass, and replaces the story with filed results.
Sources: Jay Ritter IPO data (University of Florida) · SEC EDGAR company filings · Investor.gov: Introduction to investing · FINRA: For investors · Finvest Equity Compensation Guide