3 Reasons Why You Should Buy Or Sell An IPO - Initial Public Offering | Exploring Markets

3 Reasons Why You Should Buy Or Sell An IPO - Initial Public Offering

IPOs are incredible to watch. In our opinion, they almost always represent one of three things:

1. A company is riding a trend and feeding Wall Street
2. A company needs the money to build and grow
3. A company needs the money to pay its private investors and employees

For starters, you need to define what the company plans to do with its IPO. Make sure you understand how much money they're raising and why. Try to figure out what the management team is trying to accomplish. If you find the answer to this question, you will already have a good insight into how the stock will trade after its IPO and how long it can take before you really earn your money.

So let's quickly walk through the 3 possibilities:

If they're feeding Wall Street's demand and riding a trend, then you should expect this IPO to be extremely volatile -- and in either direction. This generally means they're going to the IPO market because they have a product, service, or idea that is in high demand across Wall Street. These are generally called, "story stocks" i.e. they have a chance to change something forever! They can cure something unimaginable! In this case you have to pay close attention to press releases, potential catalysts, and how other stocks are trading in the industry.

If you decide that the company you want to invest in needs the money to build and grow... Well you could have a real long-term winner here dependent on if they execute. Make sure you understand their IPO roadshow and where the IPO proceeds will be going. Will they be investing in real estate? research and development? New hires? Then ask yourself how much value these new investments could add to the company. Stocks like this are very ripe for strong fundamental analysis and patience. Just make sure you understand the investment plan and how much revenues could grow or slow because of it.

Finally, if you think the company is trying to provide liquidity simply for their employees and private investors, well, the first 6-12 months could be a bumpy ride. This usually takes a while to work out. There are lock-ups, insider sales, management shakeups and more. It could mean there's heavy supply pressures on the horizon as some executives start to cash out after the ride to IPO. In this instance, it's generally best to stay away from this stock until all of the dust has settled. Let a lock-up expire. Hear what the private investors are doing.

All-in-all, you know you should buy or sell an IPO when you have a general understanding of the management team and their goals.