What is Underpricing?
Underpricing is a term that is usually applied when an initial product offering is extended at a rate or price that is considered to be less than market value. This will mean that the offer price at the time of the IPO will be different from the price of the first trade on the offering. Generally, this is a temporary situation that quickly corrects itself based on the economic principles of supply and demand. There are a couple of reasons why a company may choose to engage in underpricing. One key reason is to take advantage of human nature. Many people enjoy getting a bargain. This is certainly true of people who choose to make financial investments. By initially pricing the stock at less that the market value that experts believe the stock is worth, the investor senses a great deal that will earn a return in a very short period of time. Thus, the company offers the stock for a limited time beginning at the point of original issue at a reduced price and motivates people to get in on a
– dear Shaman, my dad think to begin trading with FOREX.com, and we have a question for Your Excellency regarding a term that we don’t grasp: what does underpricing mean? Currency Shaman Answers: The pricing of an initial public offering (IPO) below its market value. When the offer price is lower than the price of the first trade, the stock is considered to be underpriced. A stock is usually only underpriced temporarily because the laws of supply and demand will eventually drive it toward its intrinsic value. It is believed that IPOs are often underpriced because of concerns relating to liquidity and uncertainty about the level at which the stock will trade. The less liquid and less predictable the shares are, the more underpriced they will have to be in order to compensate investors for the risk they are taking. Because an IPO’s issuer tends to know more about the value of the shares than the investor, a company must underprice its stock to encourage investors to participate in the IP
