If you’re a retail investor who doesn’t get an allotment in an issue like Radhakishan Damani’s Avenue Supermarts, don’t despair. You should wait for the ‘subscription funding’ trade to play itself out and buy once the red-hot listing price cools.
An increasing number of rich investors, or high net-worth individuals (HNIs), are applying for IPOs buoyed by the healthy listing gains in some of the recent ones. They borrow heavily to fund their purchases in an IPO stock at interest rates that have come down due to high demand. If the stock runs up significant gains in the first couple of days, these moneybags stand to make a tidy profit net of financing costs.
The IPO of Avenue Supermarts, which runs the D-Mart supermarket chain, is likely to see significant oversubscription. However, if the so-called GMP (grey market premium) is any indicator, the blockbuster listing might ensure healthy gains for HNIs if the oversubscription doesn’t cross historic highs.
How much money the HNIs make depends on three variables -- interest costs, level of oversubscription and listing price. This table shows how it works:
If the oversubscription in HNI category is 100X, investor will get an allotment of 100 shares by applying for 10,000 shares. If he takes a leverage of 10x from the IPO financier, his own equity contribution is minuscule. But depending on the listing price, the return on equity can be significant.
As the illustration suggests, if the investor borrows at the rate of 10 percent for 10 days (two weekends prior to listing added), at 100X oversubscription, his financing cost per share will be Rs 74 and overall cost of acquisition of the share will be Rs 373. If the stock lists at a decent premium (our assumption of Rs 450 in this hypothetical working), the investor makes an absolute gain of 20.5 percent by selling his shares, resulting in a very high absolute return of investment of 2.8 percent over a period of 10 days.
The bottomline for HNIs is this: If the oversubscription isn’t too high, even with a funding cost of 10 percent, a smart listing can result in smarter gains. ‘Funded gains’ are likely to catch the fancy of HNIs as alternative investment avenues like physical real estate and real estate NCDs are fast losing their sheen. This trade has become especially attractive because of the shorter time window to listing – 6 days from an earlier 12. It has also given a fillip to the IPO financing business of the non-banking financial company (NBFC) arms of domestic brokerages like Edelweiss, IIFL, JM Financial, Reliance Securities, Kotak Securities, and Aditya Birla Money, to name a few.
Day One gains have been handsome in IPOs over the past year:
However, since the HNIs are quick to book the gains, on many occasions, stocks that have witnessed huge HNI interest during IPOs have corrected post the listing euphoria, thereby offering retail clients a decent opportunity to re-enter through the secondary market. So all’s not lost if you end up getting a meagre allocation.