274 B.E. Eckbo et al.
ture characteristics in the two marketplaces. He reports that underpricing is positively
related to return standard deviation, average IPO underpricing in the month of SEO,
relative offer size interacted with quartile indicators for the lowest stock prices and the
highest stock return volatility and bid–ask spreads, and indicators for a negative 5 day
pre-offer CAR, a tick size less than 0.25, and the Rule 10b-21 period. He also finds
underpricing is negatively related to the closing price on day−1 and its interaction
with offer price tick size less than 0.25, an NYSE indicator and the interaction of the
negative 5 day pre-offer CAR indicator with the Rule 10b-21 period indicator. The neg-
ative NYSE indicator is consistent with the findings ofAltinkilic and Hansen (2003)of
greater underpricing for Nasdaq issues.
When Corwin estimates this model with Nasdaq quote data and adds several market
microstructure variables, he finds similar findings, except that Nasdaq underpricing is
also positively related to underwriter spread. He concludes that these changes can be
explained by a variety of hypotheses related to asymmetric information (return stan-
dard deviation), temporary price pressure combined with inelastic demand relative offer
size), short selling and manipulative trading (negative pre-offer CAR and Rule 10b-21
indicator), the informativeness of closing prices on the two exchanges (NYSE indi-
cator), differences in underwriter pricing practices on these two exchanges (pre-offer
price) and changes in the economics of the underwriting business (average IPO under-
pricing).
Kim, Palia, and Saunders (2005a)empirically examine the relationship between IPO
and SEO underpricing and underwriter spreads. They find that underpricing is positively
related to estimated underwriter spread. They also find that underpricing is positively
related to the inverse log of issue size (consistent withAltinkilic and Hansen, 2003),
the period with commercial bank underwriting and a prior 15 day momentum measure.
They find SEO underpricing is negatively related to the market share of the top 25
underwriters, an indicator of a non top 25 lead underwriter and issuer equity market
capitalization interacted with the inverse log of issue size. Their empirical analysis is
based on a three-stage least squares model of underpricing and underwriter spread.
Evidence in several studies raises questions about the accuracy of the two benchmark
prices used to measure underpricing, i.e., the offering day closing price and previous
day’s closing price. First,Altinkilic and Hansen (2006)report abnormal negative returns
over the week prior to the SEO and abnormally high returns over the week following
the SEO. Third, we know that underwriters can short sell shares of SEOs prior to the
offering date and hedge them against their over-allotment options. Second, following
an offering, stabilization activities can bias closing prices, cushioning price drops be-
low the offer price for up to a month thereafter, though a couple of weeks or less is
more common.Cotter, Chen, and Kao (2004)report price stabilization for SEOs is neg-
atively related to offer price, trading volume, return variance and positively related to
the interval between the filing and offer date. In addition, by looking at only completed
SEOs, there can be some added selection bias where less favorably received offers are
cancelled or delayed.