Something weird is happening on Wall Street. It’s so weird, in fact, that those best-placed to benefit from it are taking a step back rather than plunging in. We’re speaking, of course, about the rather lunatic valuations the market has assigned to Airbnb and DoorDash, each of which is now worth roughly twice what they were when they listed, oh, all of a few days ago, and this after both repeatedly raised their IPO range and eventually priced way above said raised ranges.
The reception was so strong that videogame company Roblox Corp. pulled its own planned initial public offering as it tried to make sense of the market. Another startup, financial tech company Affirm Holdings Inc., also delayed its planned IPO over the weekend, although the exact reasons weren’t clear…. Investors this year have valued newly public tech companies at a median of 23.9 times the revenue they reported in the 12 months before going public, according to University of Florida business professor Jay Ritter, who tracks initial public offerings. That measure is by far the highest of the past two decades. For most of the 2010s, the median multiple for a tech company after its first day of trading hovered around 6 times its revenue in the prior 12 months. The same measurement for stocks on the Nasdaq Composite Index is 4.3, according to FactSet.
“I have a great deal of difficulty understanding the valuations of some of these companies,” Mr. Ritter said.
You can certainly understand why Roblox and Affirm might want to crunch some new numbers before pricing their IPOs in such a way as to not leave billions and billions of dollars on the table. At the same time, you can also easily understand Ritter’s perplexity. So what’s behind the insanity? Why, it’s the same thing behind the insatiable appetite for literally worthless shares, the 10-fold increase in shares of a company that might have—but didn’t—get a government loan and Jeff Gundlach’s nightmares: It’s the bored gamblers, the stock market ‘Stoolies and Robinhood’s many (sometimes not so) merry men and women.
“One thing that has emerged in last 12-18 months with the new issue market is the retail component, which seems to have an insatiable demand for some of these newly issued stocks,” said Brad Miller, co-head of equity capital markets at UBS Group AG, which underwrote DoorDash’s IPO…. The rise of low-cost, easy-to-use trading apps has unleashed a flood of retail investor money into stocks. Retail investors have accounted for as much as 25% of the stock market’s activity this year, up from 10% of the market in 2019, according to brokerage Citadel Securities….
Build-up in demand, coupled with the relatively scarce supply of the new shares, has always helped drive a pop in the first day of trading. The influx of new retail money is now making this pop more profound and hard for companies and their bankers to foresee. While the underwriters have great visibility into IPO demand among Wall Street’s elite circles, they cannot predict how many Robinhood users will buy the new shares….
“The animal spirit frenzy that happens as these companies are dropped into the stock market is smaller investors flocking to them like piranhas to fresh steak. That is why we are seeing valuation metrics get thrown out the window right now,” said Max Gokhman, head of asset allocation at Pacific Life Fund Advisors.