OK, once and for all: When will small investors finally get the message that investing in IPOs is a fool's game and that yet again they served as mere grist for Wall Street's IPO selling machine? The current IPO market -- controlled by Wall Street's cartel of five or six leading firms -- exists only to benefit three groups of constituents.
Foremost are the Wall Street banks themselves, which reap hundreds of millions in fees from the IPOs whether the resulting stock price goes up or down. Either way, Wall Street makes money.
The second group consists of Wall Street's big institutional trading partners -- the ones that provide banks with huge fees every day of the week, whether or not there is an IPO to be hyped and priced. For obvious reasons, Wall Street wants to keep these big investors happy. That is why they are sometimes given (inside) information about a company that small investors are not given -- as has been alleged in the Facebook shareholder lawsuits. IPOs are priced to put money in these big shareholders' pockets, either by underpricing the company in the first place so that it "pops" when it begins trading, allowing the institutional shareholders to flip the stock quickly after it rises in early trading, or by giving them information that will allow them to get out fast while smaller investors are getting in.
Lowest Priority
Third on the list of priorities is the company being taken public. The Wall Street underwriters strive to get just enough value in the IPO to keep the company's management and early investors happy, while also leaving enough on the table so institutional investors get their "pop." Wall Street wants its IPO clients to stick around for the longer term, so that additional fees can be generated from future secondary offerings, as well as future debt offerings, mergers and wealth management services. Wall Street is engaged in a delicate balancing act between its fee interests and those of its institutional trading partners and its corporate-finance clients.
You'll notice, of course, that small investors don't make the list of important constituents. Their concerns are nearly irrelevant to the Wall Street cartel, despite the marketing dollars that big firms often invest in attracting small investors to their brokerage businesses. Not that banks hate small investors -- they generate fees (through churning those brokerage accounts) and they provide liquidity to the market -- for example, in the form of misplaced demand for IPOs. But Wall Street sees little point in keeping them informed or helping them make wise decisions.
That Facebook's IPO would be a product of the Wall Street hype machine was obvious from the beginning. For at least the past 18 months -- starting perhaps with the January 2011 investment by Goldman Sachs Group Inc. (GS) into the company that valued it at $50 billion -- Facebook has been awarded one ridiculous valuation milestone after another.
It's easy to blame Wall Street for all this hype, and it's easy to blame Facebook's management for whipping up the valuation frenzy. It's also easy to blame Nasdaq for botching the orders or Morgan Stanley for mismanaging the process.
The truth is that if small investors simply remembered they are nowhere to be found on the list of important constituents for an IPO such as Facebook's, and simply stayed away, the traditional Wall Street IPO machinery would break down. Is that a lesson that can be finally learned, once and for all?
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