Abstract

The underpricing of initial public offerings (IPOs) is generally explained with asymmetric information and risk. We complement these traditional explanations with a new theory where investors worry also about the after-market illiquidity that may result from asymmetric information after the IPO. The less liquid the aftermarket is expected to be, and the less predictable its liquidity, the larger will be the IPO underpricing. Our model blends such liquidity concerns with signaling theory. The model’s predictions are supported by evidence for 36 IPOs from Tehran Stock Exchange between 2006 and 2012. Using Hui & Heubel ratio of liquidity, we find that after-market liquidity is an important determinant of IPO pricing. Practical implementation-the finding of the study could be helpful for university students and users of financial information and other financial analysts in capital market.

This work is licensed under a Creative Commons Attribution 4.0 License.