THE WINNER’S CURSE HYPOTHESES : WHY NEW ISSUES ARE UNDERPRICED

Abstract

This study discusses the phenomenon of initial public offering (IPO) prices that often experience a decrease or underpricing due to information imbalances among investors. Based on the winner's curse hypothesis proposed by Rock, investors who feel they have superior information tend to bid higher than the IPO price. However, in an environment with no information impairment, they doubt whether the IPO price reflects the true condition of the company, leading to incorrect bids. The model proposed in this article describes a market where IPO firms and investment banks as underwriters commit to the initial offer without further adjustment. The article also examines two stock offering conditions, namely oversubscription (demand is higher than the amount offered) and undersubscription (supply exceeds demand), and their effect on IPO prices. The results show that post-IPO stock price declines often occur due to information imbalances and stock allotment. This causes investors to wait for a price drop to get compensation, so the optimal price in an initial offering is the result of a series of prices formed in the market.