The post-pandemic ECM bonanza came to a screeching halt in 2022 as the Fed ratcheted up rates to combat inflation.
Frothy corners of the equity market (including and especially so-called “hyper-growth”) imploded, stocks de-rated into a suddenly onerous policy reality and highly speculative “assets” like crypto and SPACs collapsed, in some cases entirely.
It’s easy to forget that. If all you care about is the S&P, 2022’s equity bear market wasn’t especially vicious and there were no existential downdrafts. It was, famously, a “crashless” selloff. But you don’t have to look too far below the surface to see outright destruction and desolation. The IPO landscape, for example, was scorched-earth.
Needless to say, equity market performance is an important factor when it comes to explaining ECM activity. Goldman has an “IPO Barometer” which measures how conducive the environment is to new listings. A year ago, when Jerome Powell was in the process of crushing an unwanted summer equity rally as a demonstration of the Fed’s inflation-fighting resolve, Goldman’s indicator sat at just 7.
100 represents the “typical frequency of IPOs.” So, in June of 2021, the rate wasn’t just atypically high, it was more than double the usual pace.
Although the gauge had already normalized amid stocks’ remarkable run this year, fewer than three-dozen US firms had completed IPOs headed into this month since the summer of 2021.
Bank CEOs have variously suggested an ECM recovery is just a matter of time, and although you could fairly describe ARM’s offering as idiosyncratic in a number of ways, it’s nevertheless being billed as a “thaw” moment.
“The IPO market is open for business!”, Goldman’s David Kostin shrieked, in the first sentence of his weekly, referring to ARM’s debut as a “dramatic” event.
The figure above gives you some context for just how stark the juxtaposition between 2020-2021 and 2022-2023 really was. The post-dot-com bubble median for annual US IPOs raising more than $25 million was just over 100. 2021’s total was 2.5 times that. Then, the market dried up completely.
Needless to say, 2020-2021 vintage IPOs didn’t perform well. You can hardly blame anyone who jumped on the opportunity to get rich overnight or realize a liquidity event, but… well, as Kostin went on to note, the median IPO completed during those two years underperformed the Russell 3000 by nearly 50ppt during the first year after going public.
That’s egregious. The median underperformance looking back three decades is less than half that. Fewer than one in five 2020-2021 vintage IPOs outperformed. The 28-year median on that front is 35%.
You can thank, in part anyway, the rapid runup in real rates. In August of 2021, 10-year US reals were -115bps. 14 months later, they were +170bps. The 25 largest deals, which included Snowflake, DoorDash and Robinhood, saw their price to forward sales ratio de-rate by a median 62%.
If you’re curious as to what characteristics you should look for in any IPO you might decide to buy, Kostin noted that it helps when firms are able to “grow sales at a fast clip and achiev[e] profitability in their first years as a public company.” Also, “investors should be wary of IPOs that come to market at extremely high valuations.”
So, you should focus on companies that generate revenue, are profitable and aren’t too expensive. Sage advice, to be sure, if perhaps not the most profound observation ever recorded.