Collateral Regulation and IPO‐Specific Liberalisation: the Case of Price Limits in the Athens Stock Exchange

Published date01 March 2016
Date01 March 2016
Collateral Regulation and IPOSpecic
Liberalisation: the Case of Price Limits
in the Athens Stock Exchange
Stavros Thomadakis
University of Athens, School of Economics, Athens, Greece
Dimitrios Gounopoulos
School of Business Management and Economics, University of Sussex, Falmer, Brighton, UK
Christos Nounis
University of Athens, School of Economics, Athens, Greece
Andreas Merikas
University of Piraeus, Department of Maritime Studies, Piraeus, Athens, Greece
This paper uses a uniquetesting ground on the effect of price limits uponIPO pricing
and initial returns. The Athens Stock Exchange offers the opportunity for this new
experiment, as three substantialchanges in limit regulations were implemented in a
short period of eight years. The results indicate signicant differences in initial
returns. Effective price limits reduce underpricing in all market segments, without
visible diminution of IPO activity. The introduction of mandatory bookbuilding
after price limits were phased out in Athens also led to reduced underpricingin the
main market segment. Nevertheless, the existence of an independent effect of price
limits explains why some regulators continue to use them to the present day.
We gratefully acknowledge Cecile Carpenter, Thomas Chemmanur, Elroy Dimson, John
Doukas (The Editor), Tim Jenkinson, Conul Golak, Antonis Kallias, Kostadinos Kallias,
Mario Levis, Jay Ritter, Silvio Vismara, two anonymous referees and seminar participants at
the Vrije University of Amsterdam, the University of Athens and the University of Sussex
for useful comments and suggestions. We would like to thank participants of the European
Finance Association, European Financial Management Association and the Financial
Management Association for helpful comments on earlier versions of this paper.
Correspondence: Dimitrios Gounopoulos
European Financial Management, Vol. 22, No. 2, 2016, 276312
doi: 10.1111/eufm.12051
© 2014 John Wiley & Sons Ltd
Keywords: price limits, IPO underpricing, IPO regulation, government intervention,
hot/cold market conditions
JEL classification: G14, G32, G24
1. Introduction
The regulation of IPOs has a long history around the world and is linked to intrinsic
informational asymmetries that surround new listings (Chan et al., 2004; Chambers and
Dimson, 2009; Carpentier et al., 2012; Ekkayokkaya and Pegniti, 2012; Burhop
et al., 2014). Regulatory objectives regarding IPOs have sought the twin goals of nancial
regulation: efcient pricing and investor protection (IOSCO 2010). These goals have been
pursued with a variety of instruments. Disclosure requirements, audit regulation,
contractual obligations of issuers and underwriters, arrangements (including constraints)
for IPO pricing, price guarantees, overallotment options and trading restrictions for the
aftermarket represent the wide range of regulatory interventions across developed and
emerging markets.
As we would expect, the sophistication and timing of regulatory tools appear to vary
with the degree of market development, the sophistication of market agents and market
conditions. Regulatory techniques rst introduced in developed markets, (viz. disclosure
requirements, audit regulation or bookbuilding), have been emulated in emerging
markets in the process of their development. Regulatory interventions have been
subjected to empirical tests which seek to clarify their effectiveness. These tests are based
on diverse theoretical views about the desirability of regulation and the power of markets
to selfregulate, to which we return below.
In this paper we focus on price limits. These have been a controversial subject and their
empirical evaluation has been tested on the question of whether they affect price volatility.
Here we pose a different and simple question: do price limits in the aftermarket have any
effect on the wellestablished market inefciency that is IPO underpricing? This simple
question has not been asked before. But it is a reasonable question. In both theory and
practice, early aftermarket conditions are important to those who make IPO pricing
decisions. The answer to this question may inform regulatory decisions beyond what
existing empirical evidence has already provided.
The occasion for asking this simple question is an enticing empirical opportunity
presented by changes in Greek regulatory arrangements in the 1990s, a time when the
Greek market experienced considerable development. General daily limits on price
variation were imposed for the rst time in 1992 and lasted until the end of the decade.
Although directed to market stability in general, price limits had collateral consequences
for the early IPO aftermarket. Recognising this, regulators later decided that policy
towards IPOs should change and price limits were relaxed specically for early trading of
IPO stocks in late 1996. This policy change allows us to test an area that has not been
much examined in other empirical literature on IPO regulation: the impact of price limits
on underpricing in conditions closely resembling a controlled experiment.
As we explain in the body of the paper, the impact of price limits on early trading of IPO
stocks and the implications of the removal of these limits show, based on the Greek
experiment, the occurrence of two synchronous effects: on one hand, the imposition of
© 2014 John Wiley & Sons Ltd
Collateral Regulation and IPOSpecic Liberalisation 277
limits appears to reduce overall underpricing but, on the other hand, it also delays and
complicates early price adjustment. We argue that these effects correspond to received
theoretical reasoning and correlated empirical ndings from various markets and times. In
a broad sense, the explanation of variation in IPO underpricing across markets and times
cannot be oblivious to regulatory interventions, as several authors have argued (Loughran
et al., 1994). Furthermore, regulatory intervention itself must be evaluated in search for
policy implications, as regulators continue to seek effective tools whenever they perceive
market malfunction or failure.
Looking more specically at aftermarket arrangements for newly listed stocks, we
note that nondiscretionary trading limitations such as price limits, trading halts or circuit
breakers continue to be used in many markets, especially emerging ones. For example, as
recently as January 2012, SEBI, the Indian market regulator, imposed restrictive daily
price limits for rstday trading of IPO shares, attempting to prevent IPO manipulation,
in one of the largest emerging markets. Is this persistence of price limits warranted?
Price limits on stock market variation are a controversial subject both among
practitioners and scholars. The central issue is the speed and efciency of price discovery.
Different lines of argument have been formulated about the impact of price limits on the
quality of price adjustment. One side argues that limits are inefcient because they
suppress rapid price discovery after an information shock (Fama and French, 1989). A
contrary line suggests that limits offer opportunities for cooling downof investor
sentiment in an environment of information asymmetry, and thus allow for smoother price
adjustment (Hanley, 1993; Chowdhry and Nanda, 1998; Loughran and Ritter, 2002;
Thomadakis et al., 2012). Both these views, which we can summarise as the competing
informationand overreactionhypotheses, are concerned with price shocks due to
varying intensities and degrees of asymmetry of information. A considerable amount of
empirical works has attempted to distinguish between these competing hypotheses. The
impact of limits on volatility, serial correlation and price reversals has been studied with
mixed results. The two competing views the informationand the overreaction
hypotheses lead to opposing regulatory implications about the desirability of limits.
An interesting variant of thinking relates to price change that is rooted not in pure
information shocks but in a different source of disturbance: market manipulation.
According to this view, the basic regulatory rationale for imposing price limits is to
constrain the potential for manipulation by market participants who have the means to
conduct manipulative schemes, (Kim and Park, 2010). This rationale seems to us to be
very pertinent to newly issued shares where asymmetries of information are more intense
and the potential for manipulation is larger, especially in emerging markets where weaker
competition and lack of contractual and investor sophistication weaken marketbased
deterrence to manipulation.
In the extensive literature on underpricing of IPOs, the effect of regulatory
interventions has been examined, although not price limits, specically. An example
of this approach is the regulatory overreach hypothesisrelating to the effects of the
SarbanesOxley act on US IPO activity (Gao et al., 2013). Arguing that SarbanesOxley
improves transparency of primary offerings, Johnston and Madura (2009) present
evidence that IPO underpricing in the US has declined after implementation of the act.
The Greek market in the 1990s, on which we focus, was classied as an emerging
market, despite its participation in the European Union and its alignment to European
legal arrangements. We have therefore paid special attention to tests of regulatory effects
in emerging markets. Based on evidence from the Pacic Region, Loughran et al. (1994)
© 2014 John Wiley & Sons Ltd
278 Stavros Thomadakis et al.

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