Market Risk Dries up IPO &
Reverse Merger Pipelines

By Wednesday, October 12, 2011 views 4

The pipeline of Initial Public Offerings (IPOs) has essentially dried up. Those from China have evaporated in light of the increased scrutiny on Chinese stocks via reverse mergers. Global financial markets continue to face the headwinds from the yet to be resolved European Sovereign debt crisis along with domestic problems at home, including weak housing prices, high unemployment, debt/deficit, and economic renewal.

The pipeline of Initial Public Offerings (IPOs) has essentially dried up. Those from China have evaporated in light of the increased scrutiny on Chinese stocks via reverse mergers.

An interesting IPO that just registered is Glori Energy Inc., which has an innovative process that uses biotechnology to release fossil fuels trapped in reservoirs.

Otherwise it has been quiet this year following a strong IPO stream in 2010. This should not be a surprise given the weaker stock market conditions prevalent this year. I expect the flow to rise as the market and economic conditions improve in 2012 and into 2013. The reality is that companies need to raise capital and, without strong demand from investors, many smaller companies will suffer.

In addition to the IPO pipeline, reverse takeovers continue to be a disappointment for investors as we approach the fourth quarter. This other pipeline is drying up, especially from China where there have been investigations and the surfacing of tighter rules for listing and reporting on U.S. exchanges. The near term will be poor for new reverse takeover stocks, but we should see better companies surface once the regulations are cleaned up.

This is a win-win situation.

The weakness of the reverse takeover stocks is evident from the poor performance of the Bloomberg Chinese Reverse Mergers Index (CHINARTO Index), which is a market capitalization weighted index that tracks China-based companies trading on U.S. exchanges following reverse takeovers.

As of October 11, the index is down 60.13% from December 2010, compared to the S&P Index decline of 5.01% during the same period. The results have been horrendous.

The non-weighted China Main Index (TCM) is down 73% from its inception in December 2009. The non-weighted China OTC Index (TCO) is down 96% from its inception in December 2009! These are horrible results, but I feel things will improve down the road.

At present, investors remain bearish towards reverse takeover stocks due to the enormous volatility in the share prices. The last few months have been a harvest season for the short sellers in Chinese reverse takeover stocks.

The majority of reverse takeover stocks have taken a hit following the U.S. Securities and Exchange Commission (SEC) announcement irrespective of the strength and growth prospects of the business, solid financial performance, and clean reputation of the management. At the end of the day, this gives an opportunity to the investors to be selective and invest in such firms, earning higher returns.

The IPO pipeline will get better, but it will take time for the market fundamentals to improve. The next big IPOs will be Facebook and Groupon, which could debut in 2012.

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About the Author | Browse George Leong's Articles

George Leong is a senior editor at Lombardi Financial. He has been involved in analyzing the stock markets for two decades, employing both fundamental and technical analysis. His overall market timing and trading knowledge are extensive in the areas of small-cap research and option trading. George is the editor of several of Lombardi Financial’s popular financial newsletters, including Red-Hot Small-Caps, Lombardi’s Special Situations, Judgment Day Profit Letter, Pennies to Millions, and 100% Letter. He is also the editor-in-chief of a... Read Full Bio »

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