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Rationing in IPOs

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  • Christine A. Parlour
  • Uday Rajan

Abstract

We provide a model of bookbuilding in IPOs, in which the issuer can choose to ration shares. Before informed investors submit their bids, they know that, in the aggregate, winning bidders will receive only a fraction of their demand. We demonstrate that this mitigates the winner's curse, that is, the incentive of bidders to shade their bids. It leads to more aggressive bidding, to the extent that rationing can be revenue-enhancing. In a parametric example, we characterize bid and revenue functions, and the optimal degree of rationing. We show that, when investors’information is diffuse, maximal rationing is optimal. Conversely, when their information is concentrated, the seller should not ration shares. We provide testable predictions on bid dispersion and the degree of rationing. Our model reconciles the documented anomaly that higher bidders in IPOs do not necessarily receive higher allocations.

Suggested Citation

  • Christine A. Parlour & Uday Rajan, 2005. "Rationing in IPOs," Review of Finance, European Finance Association, vol. 9(1), pages 33-63.
    • Handle: RePEc:oup:revfin:v:9:y:2005:i:1:p:33-63.
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    File URL: http://hdl.handle.net/10.1007/s10679-005-2987-9
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    Cited by:

    1. Bubna, Amit & Prabhala, Nagpurnanand R., 2011. "IPOs with and without allocation discretion: Empirical evidence," Journal of Financial Intermediation, Elsevier, vol. 20(4), pages 530-561, October.
    2. Ravi Jagannathan & Ann E. Sherman, 2006. "Why Do IPO Auctions Fail?," NBER Working Papers 12151, National Bureau of Economic Research, Inc.
    3. Parlour, Christine A. & Prasnikar, Vesna & Rajan, Uday, 2007. "Compensating for the winner's curse: Experimental evidence," Games and Economic Behavior, Elsevier, vol. 60(2), pages 339-356, August.
    4. Paul Klemperer, 2007. "Bidding Markets," Journal of Competition Law and Economics, Oxford University Press, vol. 3(1), pages 1-47.
    5. Mezzetti, Claudio & Tsetlin, Ilia, 2009. "Auctions in which losers set the price," Games and Economic Behavior, Elsevier, vol. 66(2), pages 855-864, July.
    6. Chen, Bo, 2019. "On the effects of bid caps in all-pay auctions," Economics Letters, Elsevier, vol. 177(C), pages 60-65.
    7. Albuquerque, Rui & Costa, José & Faias, Jose, 2022. "Price elasticity of demand and risk-bearing capacity in sovereign bond auctions," CEPR Discussion Papers 17095, C.E.P.R. Discussion Papers.
    8. Moez Bennouri & Sonia Falconieri, 2005. "Optimal Rationing in IPOs with Risk Averse Institutional Investors," Rivista di Politica Economica, SIPI Spa, vol. 95(4), pages 3-29, July-Augu.
    9. Habib, Michel A. & Ziegler, Alexandre, 2007. "Why government bonds are sold by auction and corporate bonds by posted-price selling," Journal of Financial Intermediation, Elsevier, vol. 16(3), pages 343-367, July.
    10. Mares Vlad & Shor Mikhael, 2012. "On the Competitive Effects of Bidding Syndicates," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 12(1), pages 1-33, September.

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