What is an IPO lock-up period and how do you trade it?
The lock-up period on a number of big-name shares – including Beyond Meat, Uber and Slack – is due to expire soon. We explain how to trade this opportunity.
What is an IPO lock-up period?
A lock-up period is designed to stop early investors and insiders from selling their shares for a set period once a company completes an initial public offering (IPO), helping to minimise selling pressure in the early stages of life as a publicly-traded business.
Private companies are typically owned by founders, employees, venture capitalists and private investors. There are two reasons why they take the company public. The first is to raise cash to grow the business. The second is so they can cash-in some of their investment to date.
Newly listed businesses decide how many shares to float, but it is not uncommon for founders or early investors to retain large stakes in the business after the IPO. If one or more of them decided to sell a large amount of their stock then this could seriously depress the share price, which is not in the interests of the company or any of its investors. Therefore, existing investors are often prevented from selling their shares for set period of time after the IPO has been completed, typically for 90 to 180 days.
Ultimately, lock-up periods are all about providing support to the share price, avoiding volatility and stabilising the market for shares in the initial months after listing.
Subscribe to upcoming IPOs and placings via your share dealing account or share dealing ISA
What happens to a company’s share price after a lock-up period expires?
This means the largest shareholders in the business can only freely sell their shares after the IPO lock-up expiration. A flood of new shares can come onto the market if the owners of those shares decide to sell. If the share price has soared since the IPO, then early investors may want to reap the rewards by selling some of their investments, or if the price has tanked, then they may look to reduce their exposure. However, it does not mean they will sell either way as they could look to retain shares in the hope of prices heading even higher, or because they believe shares could recover any value lost in the early days as a public company. A lot of attention is paid to how the share price has performed versus the IPO price, but it is worth remembering that early investors are likely to have paid significantly less. This means many early investors will still be able to book a profit even if the share price has performed poorly after the IPO.
The end of a lock-up period sends a strong signal about the confidence the largest shareholders have in the company’s prospects. If institutional investors decide to dump the stock once the lock-up period ends, then this suggests they have little faith that the company is worth holding. If a relatively small number of shares are sold by these investors, then this shows they want to retain the shares and are bullish on the stock’s prospects.
Typically, if there is a sharp increase in the number of available shares available in a company then this pushes the price of a stock down. It is not unusual to see a stock’s share price fall on the first day that the lock-up shares can be traded. In fact, if other investors (not subject to the lock-up period) begin to sell in the days before the lock-up expires, then this is a sign that they expect the share price to fall.
However, there is also an argument that the end of a lock-up period can provide support after any immediate sell-off because it also means there is increased liquidity in the stock – which financial institutions and large investors like. Liquidity can be restrained during the lock-up period because it is not uncommon for the majority of a stock’s shares to be subject to it, which could mean they don’t initially meet the criteria demanded by the likes of institutions or pension funds.
Looking at 15 stocks that saw their lock-up periods expire in the first two weeks of October, the majority of shares started to fall in the days before the expiration date, prior to bouncing back three to five days afterwards. However, some saw virtually no selling pressure on the day and the share price immediately climbed once the lock-up had ended.
There is no definitive answer to how the end of a lock-up period will impact share prices. Every stock is different – some will suffer, others will benefit. What we can safely presume is that the end of a lock-up period will lead to increased volatility in the stock over the short term.
How to forecast the effect of a lock-up period expiring on the share price
- How does the share price perform in the days before the lock-up period expires? This usually shows how other investors expect the expiration of the lock-up period to impact the share price.
- How has the share price performed since the IPO? If shares have rallied since listing, then this could entice investors to sell shares once the lock-up period expires. If it has tanked then this could discourage them from selling, but it could also entice them to reduce their exposure and cut some of their losses. Remember, their entry point will be lower than the IPO price, so they can still sell at a profit even if the share price has performed badly since listing.
- How is the business performing? Many of this year’s largest IPOs have been companies that have questionable business models, such as Uber, which has confessed it may never be profitable. In the current climate where uncertainty reigns supreme, investors are looking for safer bets and have less of an appetite for riskier investments like high-growth but unprofitable businesses. This could encourage a larger sell-off once the lock-up period expires as investors look to redeploy their cash to safer alternatives. Remember, lock-up investors have not been able to respond to any news since the IPO.
- How many shares are subject to the lock-up period? The number of shares subject to a lock-up is usually quite large. Take SciPlay as an example. Currently, only 22 million shares are freely tradeable in the business on the open market. But once the lock-up period expires on 30 October, a staggering 104.3 million more shares can be freely traded. The more of a company’s share capital that is subject to the lock-up period, the greater the potential selling pressure will be.
- Who owns the shares subject to the lock-up period? Understanding who owns the shares subject to the lock-up can provide further insight as to whether they will look to sell down their stake when it expires. Consider the strategy behind each shareholder’s stake and why they own it. For example, if the majority of lock-up shares are owned by founders and management, then they are less likely to sell large stakes compared to institutions or funds that have invested early on. If employees have been paid in shares, then they will cash in at the first opportunity.
How to trade upcoming IPO lock-up periods
There are a few ways to trade the expiration of a lock-up periods following an IPO. If you believe the stock is going to suffer as a result of the lock-up period expiring, then you could short the stock in the days beforehand. You could do this using an IG’s spread betting or CFD services, which also allow you to utilise leverage.
Read more: What is the difference between spread betting and CFDs?
For investors, it could present a different opportunity. If you missed out on buying any shares when a stock conducted its IPO, or feel like you have been priced out, then any knock to the share price when the lock-up period expires could present an opportunity to buy at a cheaper price. This only applies if you believe in the stock over the long term and want to get a cheaper entry point. You can use an IG share dealing account to do this and will own the shares outright, benefiting from any appreciation in price as well as any dividends that are paid.
Upcoming lock-up period expiration dates
A number of stocks have listed over the past six months and many investors are still unable to sell their shares due to lock-up periods. Below is a table outlining upcoming expiration dates for stocks that you can trade with IG. It lists the date the stock listed, the IPO price, and the date that the lock-up period will expire.
|IPO date||IPO price||Lock-up expiration date|
|Castle Biosciences||25 July 2019||$16||21 January 2020|
|Health Catalyst||25 July 2019||$26||21 January 2020|
|Livongo Health||25 July 2019||$28||21 January 2020|
|Sunnova Energy International||25 July 2019||$12||21 January 2020|
|Borr Drilling||31 July 2019||$9||27 January 2019|
|Kura Sushi USA||01 August 2019||$14||28 January 2019|
|Sundial Growers||01 August 2019||$13||28 January 2019|
|AMTD International||05 August 2019||$8||03 February 2020|
|Inmode||08 August 2019||$14||04 February 2020|
|10x Genomics||12 September 2019||$39||10 March 2020|
|SmileDirectClub||12 September 2019||$23||10 March 2020|
|Cloudflare||13 September 2019||$15||11 March 2020|
|SpringWorks||13 September 2019||$18||11 March 2020|
|Envista||18 September 2019||$22||16 March 2020|
|IGM Biosciences||18 September 2019||$16||16 March 2020|
|Datadog||19 September 2019||$27||17 March 2020|
|Ping Identity||19 September 2019||$15||17 March 2020|
|Peloton||26 September 2019||$29||24 March 2020|
|Aprea Therapeutics||03 October 2019||$15||31 March 2020|
|Viela Bio||03 October 2019||$19||31 March 2020|
|BioNTech||10 October 2019||$15||07 April 2020|
|BellRing Brands||17 October 2019||$14||14 April 2020|
|Innate Pharma||17 October 2019||$6||14 April 2020|
|Brookfield Residential Properties||24 October 2019||$14||21 April 2020|
|Cabaletta Bio||25 October 2019||$11||22 April 2020|
|Progyny||25 October 2019||$13||22 April 2020|
This information has been prepared by IG, a trading name of IG Markets Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients.
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