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Fisher Investments View: The Moral Of The Facebook “Flop”

This article constitutes the views, opinions, analyses and commentary of Fisher Investments as of May 2012 and should not be regarded as personal investment advice. No assurances are made Fisher Investments will continue to hold these views, which may change at any time without notice. In addition, no assurances are made regarding the accuracy of any forecast made herein. Past performance is no guarantee of future results. A risk of loss is involved with investments in stock markets.

As the fourth day dawns on Facebook as a publicly traded stock, the post mortems are in full effect.

Some claim the underwriter made an error, which led to Facebook falling in value in initial trading days. Maybe it did, but then folks aren't upset the underwriter made an error . . . they're upset the underwriter made the wrong error! Allegedly overvaluing the IPO rather than undervaluing it. Presumably, there would be no agonized headlines had prices gone the other way.

The job of an underwriter is, among other things, to make the best estimate they can of what a firm is likely to be worth in the marketplace. No doubt, there will be investigations aplenty into the underwriter's and Facebook's conduct to verify whether they did (or did not) follow proper procedures and had sufficient internal controls. But regardless, an underwriter's aim isn't to undervalue the stock so it has a thrilling open. Theoretically, a year after the IPO, if the stock were trading at the IPO price, the underwriter didn't do a lousy job. Also, keep in mind there is nothing particularly magical about underwriters making them more accurate on average at pricing firms than any other capital markets professionals.

However, this is a lot of hysteria over not yet 4 full days of trading data. Maybe something went awry. Maybe there was in fact a technical error. Maybe too many shares were issued, maybe not. But the fact is, many IPOs flop. Stock prices in the initial days after an IPO are historically a coin flip (according to Fisher Investments research)-that Facebook's shares fell isn't unusual.

What's more, a few years after an IPO, those stocks tend to lose money more often than not and lag their categories. That's not necessarily anyone's fault. Owners of a company understandably want to sell when they believe they can get the most value. They naturally think they know the company best (and perhaps they do) and will be more motivated to sell when they think they can get a premium. Otherwise, why sell?

The lesson to be gleaned here isn't what the underwriter and/or Facebook did wrong. It's that IPOs are, on average, lousy investments.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.