ate gains.^24 As a result, the vast majority of these IPOs are classified as
“growth” stocks.
Certainly there have been some big winners among past IPOs. Wal-
Mart, which went public in October 1970, turned a $1,000 investment
into more than $1,370,000 by the end of 2006. Investors who put $1,000
into Home Depot and Intel when they went public also turned into mil-
lionaires—if they held on to their stock. Cisco Systems was another win-
ner. Floated to the public in February 1990, the networking supplier has
delivered an average of 40 percent annual returns to investors through
December 2006, although all of the gains were made in the first 10 years.
But can these big winners compensate for all the losers? To deter-
mine whether IPOs are good long-term investments, I examined the buy-
and-hold returns of almost 9,000 IPOs issued between 1968 and 2001. I
calculated the returns whether investors purchased the IPOs either at the
end of the first month of trading or at the IPO offer price and held these
stocks until December 31, 2003.^25
There is no question that the losing IPOs far outnumber the win-
ners. Of the 8,606 firms examined, the returns on 6,796 of these firms, or
79 percent, have subsequently underperformed the returns on a repre-
sentative small stock index, and almost half the firms have underper-
formed by more than 10 percent per year.
Unfortunately, the huge winners like Cisco and Wal-Mart cannot
compensatefor the thousands of losing IPOs. The differencesin the returns
to a portfolio that buys an equal dollar amount of all the IPOs issued in
a given year and a portfolio in which an investor puts an equivalent dol-
lar amount into a Russell 2000 small-cap stock index are featured in Fig-
ure 9-6. Returns are computed from two starting points: (1) from the end
of the month when the IPO was first issued and (2) from the usually
lower IPO offer price.
The returns on all yearly IPO portfolios issued from 1968 through
2000 were examined to December 31, 2003, to allow for at least three
years of subsequent returns to be calculated. The results are clear. From
1968 through 2000, the yearly IPO portfolios, measured from the end of
the price of the first month of trading, underperformed a small-cap stock
index in 29 out of 33 years when measured eitherfrom the last day of
trading in the month they were issued orfrom the IPO issue price.CHAPTER 9 Outperforming the Market 155
(^24) Obtaining IPOs at the offering prices, especially ones that are in great demand, is very difficult as
investment banks and brokerage firms ration these shares to their best customers.
(^25) About one-third of these firms survived in their current corporate form through December 31,
- If they did not, I substituted the return on the Ibbotson small-cap stock index (see footnote 9).