Title

Purchasing IPOs with commissions: Theoretical predictions and empirical results

Comments

For full text, please contact the Babson Faculty Research Fund.

Abstract

The prevailing literature suggests that either short-term or long-term investors send commissions to underwriters in return for lucrative IPO allocations. We reconcile these two theories into a single theoretical framework, generate new and unique hypotheses, and, using a proprietary database of institutional trades, find evidence that institutions increase the commissions they send to lead underwriters by about 10% by churning stocks and paying abnormally large commissions. Short-term clients receive lucrative IPO allocations in return for the inflated commissions they send to lead underwriters. As predicted by our model, inflated commissions are inversely related to the concentration of the underwriter’s client base, indicating concern for long-term clients. We estimate that total market-wide abnormal commission payments to be $2.2 million per IPO, and that an additional $1 payment of excess commissions to the lead underwriter leads to $2.76 in investor profits.

Disciplines

Finance and Financial Management

This document is currently not available here.

Share

COinS