Trading IPOS: What I learned from the Book - The Lifecycle Trade
Notes and Excerpts from the Book
⚠️⚠️Disclaimer: I am not SEBI registered. The information provided here is for educational purposes only. This is not a buy or sell advice. I will not be responsible for any of your profit/loss based on the above information. Consult your financial advisor before making any decisions.
Excerpts have been taken from the book "The Lifecycle Trade". All credit for the original work goes to the authors.
Primary Market Activity is getting hot. Two prominent brands are hitting the shelves - OLA Electric and FirstCry. Let’s look at the lifecycle of the stocks from their debut to the time they become mature.
Initial Public Offerings, commonly known as IPOs, are when a company lists on the stock exchange(s). This presents an opportunity or an optionality regarding available investment/trading alternatives.
However, trading or investing in IPOs is not the same as with mature stocks.
Studying the Life Cycle of IPOs
We believe that the majority of new issues, with few exceptions, go through defined price patterns. These price patterns are caused by the transition in ownership from private to public investors and large institutions. As these institutions research a company's potential, the shares of a stock move from the hands of venture capitalists, founders, and short-term traders to longer-term investors.
This common trajectory creates defined patterns.
The advance of IPO stock in general terms is in two phases:
(1) IPO advance Phase (in generalized terms retail participation)
(2) Institutional Advance Phase
IPO advance Phase
This early action typically is associated with the excitement and publicity surrounding a new equity trading for the first time. It also can be associated with general market action. IPOs can, for example, correct quickly and significantly as the general market ages a downturn. IPOs are subject to analyst downgrades and econdary offerings (a post-market sale of shares) that cause the tock to retreat as well.
The majority of the IPOs come in the bull markets. During this bull period, there is already an ample supply of liquidity and euphoria. Narratives and storytelling are at their best.
Institutional Advance Phase
After the euphoria fizzles, the stock normally goes into consolidation i.e. forms a base in technical analysis parlance.
The base breakout (typically a breakout from Ist base or 2nd base) signifies institutional buying.
Prior to making a sustained advance, the majority of Super Growth Stocks go through a long I-DDP. Investors can become worn out or even take the stock off their radar during this phase.
Since it is not known, how long the base formation will take. The key actionable as a trader is to have a separate IPO watchlist which is reviewed for potential trades at periodic intervals.
My IPO Watchlist
Life Cycle Patterns
(1) Late Bloomer Lifecycle Pattern
A Late Bloomer has an initial move up from its IPO base. Just as everyone starts to believe it's a leader, this pattern quickly stalls out and wears out investors with a long, sideways move before starting a massive rally, typically for close to a year or more. In essence, Late Bloomers are those IPOs that initially appear to be great by staging an advance. After a quick advance, though, Late Bloomers quickly fall into consolidation.
e.g. IEX
(2) Pump and Dump Lifecycle Pattern
A hyped stock that tanks soon after the IPO and undercuts the IPO price. It consolidates for several months to a year or more before starting its move up. Many traders get trapped creating stiff resistance.
eg. Zomato
(3) Stair Stepper Lifecycle Pattern
Stair Stepper goes up right from the IPO without undercutting the IPO price with multiple bases along the way.
Fits nicely with the darvas box theory. Easier to execute as a swing or positional trade.
Venus Pipes
MAZAGON DOCKYARD
(4) Rocket-Ship Lifecycle Pattern
Massive rise immediately akin to a rocket out of launchpad without undercutting IPO base (or initial base). Quick rise.
(5) One Hit Wonder Lifecycle Pattern
An IPO that explodes with big gains, fizzles out, and undercuts the entire structure is a One-Hit Wonder. If a trader is fast, and has great offensive sell rules or trailing stops, he might be able to book some considerable gains before the stock fizzles.
Don't discard them from the watchlist as it can never be ascertained when the base will be completed.
Longer the base the higher the potential after base breakout.
VEDANT FASHIONS
(6)Disappointment Lifecycle Pattern
A Disappointment represents an IPO that almost immediately starts to tank, undercuts its IPO price, and rarely becomes a leader oi, if it does, takes many years to surpass its IPO price.
This is why it's important to distinguish a good company from a good stock. A good company is not necessarily a good stock. Most never really become the great leader we're always looking for. This was a huge revelation to the team and reinforces the fact that a trader must be highly selective in stock picking, because the great leading stocks of our time are few and far between.
TATA TECHNOLOGIES
TATVA CHINTAN PHARMA
To Sum Up
(1) There are distinct phases in the Lifecycle of stocks. IPOs normally come in bull markets characterized by liquidity and euphoria.
(2) Retail Participation / IPO Advance Phase: Activity before the first/second base i.e. largely retail-driven price action. More volatile and short-term.
(3) Institutional Advance Phase: When price action is driven by institutions / long-term smart money. In technical terms, it is when the stock breaks out from the IPO base/Ist-2nd base.
(4) There are different price patterns as have been detailed above. Though the concepts in the book were in context of US markets, as seen in various Indian Examples, the same patterns are seen in Indian IPOs as well.
(5) Helped me distinguish between the different phases of the IPO stocks. Also, moves after bases are more potent - hence my focus is to scan my watchlist at regular intervals to identify IPO base breakouts.
(6) Importantly, these patterns are not set in stone. The chart pattern can look different at different points in time. There could be a rocket move at the start. Then there could be a downward consolidation....creating a long base and then move like a pump and dump lifecycle and the subsequent moves can be like a staircase.
Resource: Book -The Lifecycle Trade: How to Win at Trading IPOs and Super Growth Stocks
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Disclaimer: I am not SEBI registered. The information provided here is for educational purposes only. This is not a buy or sell advice. I will not be responsible for any of your profit/loss based on the above information. Consult your financial advisor before making any decisions.
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