March 23, 2018

Partying Like It’s 1999: Record Number of IPOs in the Red

Seventy-six percent of the 174 U.S. initial public offerings (IPOs) in 2017 were of companies with earnings less than zero. While it’s not unusual for unprofitable companies to go public, this is the highest level we’ve seen since 2000, and equal to the second-highest year of 1999.

While the greatest proportion of 2017 IPO companies with less-than-zero earnings were in the biotech (97%) and technology (83%) sectors, that still leaves 57% of all other companies being loss-generating, a record high.

Many companies go public early in their cycle, when they are still growing and haven’t yet reached profitability; whether or not a company is profitable when it IPOs is not much of an indicator of whether or not it will be successful later on, nor does it predict anything about its future share price. Stocks are currently in high demand and the market is illustrating peoples’ optimism. You can see by the chart above that the last few years have seen a fairly high percentage of IPOs are companies with negative earnings.

That being said, the last time we saw this magnitude of zero-profit companies making IPOs was at the height of the tech bubble in 1999 and 2000.

It’s not possible to predict market movements, but it is possible to be prepared. In January this year, we wrote about the dangers of complacency in investing. With a market that has been strong for so long, investors have a natural tendency to set a new “normal” based on the current environment and make decisions using that as a baseline. But the one thing the market does consistently is change. Long-term investors are successful when they build their strategy to be able to move through and weather changes.

What does this mean for you as an investor? We would remind investors about these four steps to position your portfolio for any future:

Make sure you are adequately diversified: Make sure your long-term strategy is well diversified across a variety of asset classes.

Rebalance to target: Rebalancing essentially locks in your gains, while maintaining your long-term strategy. When stocks are booming, it can feel difficult to sell them, but that’s the goal of buying low and selling high. Don’t wait for a dip in the market; rebalance and maintain your long-term targets.

Use active management: When the market changes, it often does so very quickly. Active managers are able to position portfolios to weather market downturns and take advantage of different environments. Research has shown that active management has tended to outperform in down markets.

Consider using hedge vehicles and/or private markets: When it comes to providing downside protection for your portfolio, hedge vehicles have a number of advantages in their ability to provide risk management and diversification. Private equity is another avenue to achieve diversification outside of public markets. Read about how private markets may be a solution to overcrowding in U.S. public markets here.

One of the things we feel very strongly about and that has generated success for our clients for decades is our ability to think long-term and build portfolios strategically designed to be sustained through full market cycles. Short-term trends can be interesting to watch, but keep your focus on the far horizon.

Sources:

“A Familiar if Ominous Sign in the US IPO Market” by Callum Thomas; Topdown Charts; March 13, 2018

Jay R. Ritter, University of Florida Warrington College of Business; IPO Data

“Global IPO trends: Q4 2017,” EY; 2017