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Theories of Underpricing
One might expect that underwriters and issuers of IPOs along with each of the individual investors would have different sets of information regarding to the value of the issue. Many of the underpricing theories contend that underpricing is a form of compensation for the risk that a particular party bears because of an assumed informational advantage of one of the parties over another, and other theories propose underpricing is compensation for providing information to other participants.
Rock (1986) argues that underpricing is a result of the risk assumed by uninformed investors because of the informational advantage of informed investors. Beatty and Ritter (1986) extend Rock’s model and find that underpricing is an increasing function of the ex-ante uncertainty of the issue.
Approximate Word count = 588
Approximate Pages = 2.4
(250 words per page double spaced)
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