I think we all understand the deal with investors who get in early and invest money in something that has a chance to fail will make money if it succeeds.

The IPO is a suckers game. It says me as an insider value the company less then you as an information limited outsider. If Twitter is worth $50 bucks a share why were its investors willing to part with their stock for $26 a share only yesterday? Sometimes you can profit even in the presence of this information disparity because the company will outperform its expectations, but now you're 1 out of 144...

<rant over> :-)

EDIT: I think a solution to that is perhaps a combination forcing companies to go public sooner (limit IPO valuations or spread the share sale over longer periods), combine with more limits on insiders, more and earlier disclosure and perhaps combine that with a more KickStarter like model - eliminate the middle man.

As for the insider vs outsider. In order to issue an IPO, a number of stocks are agreed to be issued. These stock either come from the company issuing more shares and diluting the value to current stock holders and the company receives the money from the new share purchase, or the stock holders offer up some of their stock to be sold in which case they receive the money. I believe is usually mix of the two. The current stock holders don't offer all of their shares up. Just enough (I believe this is set by the SEC) to enter the market.

The underwriter assumes a large risk and for the portion of the stock that goes through them to market, they are paid the $20 difference ($26 to $46). As well they facilitate the actual sale of the shares. This is not an easy task (again see the technical issues with the Facebook IPO).

So in the end the 11 rounds of investors get $26 for some of their shares, in order for the rest of them to be worth $46 or now $50. They are also now allowed to sell those remaining shares on the open market. Something they were not able to do before the IPO.

No one is getting screwed here. There is a very big pie, and everyone, from the first investor to the undrewriter, gets a piece.

That said, most of the money still does end up in the company which can use it to build its business. The process isn't completely broken. But it's very inefficient.

If they still made money, what's the risk? I don't consider "X chance of making 100% return, (100-X) chance of making 10% return" to be much of a risk.

Facebook went the other way. They tried to grab every last penny on the table. Their stock underperformed post-IPO which isn't good either.

You can put Twitter in an overreaction the other way - they didn't want to leave money on the table (raising the shares to 26) but didn't want to be too greedy either.

The bankers get paid to line up supply and demand. They may be helped by being an oligopoly, but right now the market isn't set up to cut them out of the loop.

But, why was it bad for Facebook? Sure, their stock was below the IPO value for almost a year, but employees almost certainly had their options priced well below the IPO price, right? What other ways can a slightly lowered stock price hurt a company in the year after an IPO? Genuinely curious about this.

Moreover, there is a mental dynamic when recruiting. A steadily appreciating stock is a helluva recruiting tool.

Internally someone starting the week of IPO might have received his stock grant at that week's price might not feel particularly upbeat when the stock price is later cut in half. There's always some churn and renegotiation going on at the companies whose stock price suffers significantly, and that makes it harder to concentrate on execution.

Also - if every company flopped post-IPO, the IPO market would die. That's not Facebook's immediate problem, and again "doing the right thing" isn't worth leaving $20/share in the hands of flippers.

Could you elaborate? I thought the dutch auction was a good way to maximize google's share of the pot (by taking money away from well-connected people who received shares at the IPO price). Looking back at historical reports it only "popped" 17% ($100 from offering price of $85) compared to twitter's 73%.

I view the bankers like real estate agents. Many are worthless, but a good real estate agent can raise the price you sell your house for much more than the 6% in fees they charge.

This is a good example of a situation where you should stay close to what you know and stop thinking you can outsmart people who make a living a certain way everyday and know as much or more than your advisers. And definitely more than "you" (meaning the google guys) who made decisions based on things they read or what they were advised as opposed to having an actual seat of the pants feel for why something is done a certain way. And the pros and cons.

There is a reason, you know, why people cooperate with the "mafia" and pay the vig and play the game. Is it right? No. But stick to what you know and stop thinking you can outsmart others out there who do something for a living and have established procedures and actually do add value in a system that essentially works. So others take their cut.

The jury is still out on Facebook. Their IPO could hurt them getting money in the future, but maybe not.

It's not the underwriters who get paid when stocks double, it is the people they allocate the stock to.

http://en.wikipedia.org/wiki/Time_value_of_money http://en.wikipedia.org/wiki/Expected_value

As Warren Buffer says, in the short term the stock market is a beauty contest. So yeah, Twitter is very beautiful today.

The idea behind the stock market is to have a way for businesses to raise money for expansion (other than getting a loan from the bank) and investors buying into the future profit of this expansion. This is capitalism and it's great. It has turned into this casino pumped by easy money with wild up and down swings where any correlation to the soundness of the business, its prospects or performance are purely coincidental.

The "insider" doesn't have to compete with as many people for an ownership share. A small sampling of "insiders" does not efficiently price a security the way an offering to the greater market does.

This idea that capital markets are designed to screw over the little guy is amusing to me to see HERE on THIS WEBSITE of all places.

You act like the market works like Amazon.com where these scary "insiders" list $45 price tags on things. In reality, people are creating BIDS. That's how it works.

To me an IPO is very much a conflict of interest situation with asymmetry of information. There are laws to govern this but there is a huge gray area.

Once a company is public it's a little different...

In my opinion capital markets have been getting more broken in many ways and have been favoring the big guys over the little guys in many ways. I say that as someone who invests in the markets, have benefited from stock options and pretty much seen things from many different angles. In the last 15 years capital markets have failed to deliver the economic growth and the gap between the rich and the poor has widened.

You're obviously entitled to your own opinion, and certainly IPOs carry much risk. That "insiders" get made liquid is not, IMO, one of them. Somebody who invested in GOOG on day one would've made over 10x on their money today. Somebody who did the same in ZNGA would not. It's obviously very risky, with potential for commensurate reward.

I'm not sure why you think the markets have "failed to deliver the economic growth" over the last 15 years, or that it's somehow their job to "deliver" economic growth. I think us "little guys" who have invested in the market in that time have done very well on balance.

I'm not one for long back and forths, so feel free to have the last word if you'd like it. I replied initially because I'm very much turned-off by the save-people-from-themselves philosophy.

You quoted Buffet, I'll quote Jesse Livermore: "t was never my thinking that made the big money for me, it always was sitting."

If you think the "little guy" is screwed over by the "big guy", become a buy-and-hold investor. There's little way to be screwed there. Spread your bets out--diversify--and buy and hold. When it comes to trying to time the market or play ER or day trade, you're right, it's hard for a retail investor to make a buck. So buy and hold and let the stock market help you accumulate wealth the way it's done reliably for over a hundred years.

One answer is there are a lot of people who just want to get their billion out. Or million. Or hundred thousand. They are largely undiversified. They are selling to diversified owners who are less impacted by day to day price shocks.

A second point is that the underwriter is paid to keep the shares liquid on the market at least for the first 30 days depending on the contract deal. It means that the underwirter will need to put himself on the buying side or the selling side everytime someone want to buy/sell his shares ... this is a huge risk again just look at the volume of the share deals everyday on the market to see what kind of liquidity the underwriter need to keep ready to play ... I agree with you that this don't create value for the economy out there but it is necessary to keep the wheel rolling ...

On every trade two speculations are made, I don't see how bringing in unsophisticated retail investors would help with regard to price discovery.

Looking at it another way: the whole thing is intrinsically speculative. Starting a company is speculative, investing in a company early on is speculative, IPOing is speculative, buying publicly traded shares is speculative. It's all speculation in a never ending quest to divine what a company's (or idea's) true value is.

The more I go down the rabbit hole trying to think about and understand all of this, the more I find myself ending up here: http://en.wikipedia.org/wiki/Wikipedia:Getting_to_Philosophy :D

" it just appears to boil down to a numbers and sentiment game that doesn't seem to be a rational way to determine a company's "real" value at any given point in time"

The interesting question is "What makes this important to you?"

I ask because there is absolutely a rational way to determine a company's value, it involves analyzing its market, its product, its ability to grow and develop and the its ability to stay ahead of others who would try to do the same thing.

Putting the world "real" in scare quotes suggests that there is a large difference between a value that you came up with internally and the one being exhibited on the stock market today. This isn't a whole lot different than the 'SnapChat is worthless' discussion of a few days ago. It also isn't surprising since different people value things in different ways. But it is important to recognize that you are not wrong, if it is worthless to you, it is. And that is just as valid an assesment of the company as one that thinks it's the best thing since the wheel.

So why is it important?

When I was 8, I was selling some baseball cards at our yardsale, priced per their trade book value. At the end of the day, I was distraught because the only offers I got were well below the cards' value. The response from my mom still resonates to this day:

"Things are only worth what people are willing to pay"

The only way you can ascribe value is from the point of view any one particular entity (including yourself) at any one particular time. The only way you can see it is when a transaction takes place.

There's nothing wrong with stock markets conceptually, and there are indeed some which are nicely regulated and quite fair.

So, given your bank goes bust in say, one of those recessions the U.S. experiences in greater and greater frequencies, either you lose nearly everything in your 'savings' account as the FDIC doesn't have enough money to cover all of its deposits the bank loaned out for its own profit - fractional reserve banking serving YOU since 1913. OR the FDIC pleads to the Federal reserve to 'give' it money, print it that is, causing massive inflation. Though in that latter case, you get the money first, so get to spend at current prices before the influx of new currency causes prices to inflate.

Though in current times, the solution is that these banks are too big to fail. So whenever they gamble your money to make a profit, yet lose, they get some of those nice big bailouts from the Fed. In that case the banks get to the spend the money first, and everyone else holding USD gets an inflationary hit - again you lose your purchasing power of your savings.