Angola stock market is officially open!! Yesterday, ENSA (Angola's largest insurer) in an oversubscribed listing, issued 30% of its shares to the public, now joining other local big names like BAI and Caixa Geral. And despite high inflationary pressures, IPO and M&A activity has picked up significantly mainly off the back of the Government's ambitious national privatization program. But, as strong gains tend to stretch valuations relative to fundamentals like impact of interest rates, the cost of financing, and earnings. How far are investors willing to chase performance?
There is now an ever growing sense of hype around the "who's next in line" IPO. And no wonder!! Emerging markets IPOs tend to outperform their developed markets counterparts. Take the US vs Europe, Middle-East, India and Africa (EMEIA) region for example:
• While the US has been experiencing a prolonged state of low growth of its IPO markets (both on proceeds and performance), with recurrent themes of "companies staying private for longer",
• Emerging and developing markets, on the other hand, are on the rise. Just last year alone, has outperformed its counterpart by a long shot - first day average return and offer-to-current price, both registering 10.1% (USA 9.7%), and 101.9% (USA 1.4%) respectively.
Despite this, in the long-run there are both liquidity and negative loading to value issues to consider:
• Stocks in emerging markets can suffer from lower liquidity, meaning that large price swings are possible with relatively small trades. This can lead to higher volatility and larger bid-ask spreads compared to similar companies in developed markets;
• Research shows that IPO investments tend to behave like high beta stocks with negative loading to the value factor (in other words, they behave more like a small growth, low profitability investment).
That being said, I remind our investors that it's not the arithmetic returns on an investment that matter, but rather the geometric average returns, because returns compound over time. More volatile assets tend to have a bigger gap between arithmetic and geometric returns... but more on this later on another post.
So finding an already existing well diversified mutual fund or ETF to get in on the action of initial IPO allotments, avoid single asset beta and post fade reactions, is the rule of the game here. While an individual stock investment will deliver a random outcome essentially driven by the specific risk of the company, a more balanced and diversified portfolio should allow the investor to counter the impact of post IPO volatility.
Going back to basics in portfolio theory, the risk of an investment portfolio is defined not by the average of its underlying assets, but by how they move in tandem - i.e. their correlation. In the words of the great Markowitz, diversification is the only free lunch in investing!!