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What is The Role of Investment Banks in Initial Public Offerings
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In this study, a potential conflict of interest (COI) between the divisions of asset management and investment banking or financial firm’s services over the worldwide will be examined. Specifically, the study will focus on how the IPOs are allocated to mutual fund affiliation by investment banks by providing an informational advantage related to the quality of the pre-offering IPO (Tim, 2013).
In order to understand the role of investment banks in the IPO process, the following research questions would be used:
This study would focus primarily on European markets. This study would make use of quantitative and qualitative analysis to answer the research questions. The study will be mainly focused on IPOs in a country having strong investor protection and the highly developed stock market, i.e. in the United States as per Rule 10f-3 of the ICA (Investment Company Act), 1940 which helps to prevent IPO from getting dumped. Although the work of Ritter and Zhang was groundbreaking, it might act as illumination for exploring the differences of cross-country levels in the allocations of the IPOs to mutual funds that are affiliated with the underwriters of the IPO. Variation in institutions of country-level of investor protection provides insight to identify whether underwriters are taking advantage or favoring of the shareholders of mutual funds that are affiliated.
IPO that is allocated to mutual fund affiliation will be analyzed within 24 countries for the period 1999-2009. The impact of variation in the cross – country level of investor protection on the allocation of IPOs to mutual fund affiliated with the lead underwriter of the offering will also be tested. The main goal is to investigate the country-level measures of investor protection either aggravate or mitigate the conflict of interest (COI) between asset management divisions and investment banking of financial firms. This exploration helps to identify whether and how the financial conglomerates take advantage of investors of the mutual fund during the allocation of IPO and what steps need to be taken for preventing it.
The analysis will begin by comparing initial IPO returns over the countries. Initial returns refer to the degree at which an IPO gets underpriced. This means that any investors that get the opportunity to allocate underpriced IPOs get benefited from the underpricing of IPO. In Asia-Pacific and Europe region, IPOs that was purchased through mutual fund affiliated with the lead underwriter offering have lower initial IPO returns than IPOs those are not purchased through mutual fund affiliates. But IPOs those were purchased through mutual fund affiliates had significantly higher initial return and the findings support the univariate results of Ritter and Zhang (2007). Next, the analysis will be focused on how the investor protection country-level measures are related to initial returns. The common dimensions of investor protection that was used by existing literature had been used for analysis that includes the legal origin of the country and various indices used were prospectus liability, judicial system quality, disclosure requirements, and anti-self-dealing regulations. Both unaffiliated and affiliated IPOs those having high initial return were strongly associated with the investor protection. Interestingly, all measures of investor protection that is weak or strong, IPOs those were affiliated having a lower initial return than IPO those are not affiliated. From this evidence, it can be inferred that shareholders of an affiliated mutual fund are not associated with the affiliated underwriter for allocating IPOs and supports the dumping ground hypothesis. The result of univariate analysis gives a rough picture, because of which multivariate analysis is used to get appropriate evidence. The determinants of initial IPO returned will be examined. After the deal with relevant features, it was found that IPO those are purchased through mutual fund affiliates are significantly related to lower initial IPO return and supports the dumping ground hypothesis. It was also found that investor protection those are strong is related to higher initial return and investors of the mutual fund also get benefited. This result was significant to multiple dimensions of investor protection. The stronger investor protection was positively related with the allocation of IPO to mutual fund affiliates and was also significant. This means the impact of strong measures of investor protection balances the negative relation that appears in between initial IPO return and allocation of IPO to affiliation. This result also signifies how country-level mechanism minimize the conflict of interest that exists within financial conglomerates. For preventing IPO from dumping, stronger investor protection was utilized. Finally, how IPO get allocated to mutual funds affiliates will be examined. In particular, we are mainly interested to know whether colds IPO those having lower initial return get allocated to mutual fund affiliates. As IPOs seem to be dumped and undersubscribed. A negative relation between IPO that was purchased through mutual fund affiliates and measures of investor protection was found. This means that a country having strong investor protection was less allocated to mutual fund affiliates. The relation between cold IPOs and stronger investor protection was negative and relevant. This means cold IPOs are less intended to get allocated to affiliates when they have stronger investor protection. As stronger investor protection can protect the cold IPO from getting dumped by underwriter while allocating to mutual fund affiliates. The results support the argument that investor protection that is strong can prevent IPO from dumping. Finally, the performance that is a long run of IPOs affiliated was compared with the offering that is not allocated to fund affiliates. Although, both of the IPOs were intended to underperform in the long run depending on different benchmarks. There was no relevant relation was found between the underperformance of unaffiliated and affiliated IPOs. The two areas of this study contribute same results to existing literature. First, the results developed a relation between an affiliated mutual fund and investment banking. It was seen that the evidence supports the dumping ground hypothesis. As this hypothesis supports the conflict of interest between the shareholders and underwrites of mutual fund affiliates. Second, the results prevent the underpricing of IPO from getting dump by using country variation investor protection measures. Country-level mechanisms of investor protection was significantly related with the initial IPO returns. The strong investor protection balances the negative effect of affiliations among mutual fund and underwriters. Investor protection measures prevent IPO from getting dumped which investors of mutual fund get benefited. This evidence appears to be effective while dealing with the financial firm's conflict of interest. New conflicts arise as banks expand their scope continuously. This means policymakers will continuously keep eye on the client from preventing them from the conflict of interests
