Bulletin Spring‧Summer Autumn‧Winter 1999

the first few aftermarket days. A l t h o u g h it is rational to take profit wh en the returns are h i gh on unseasoned stocks i n an emerging market, it suggests immediate profit-taking b y flippers. This gross underpricing of A-share IPOs also resulted i n an overheated p r i ma ry market and misled the Chinese public to speculate and to overlook risk. Phase I I Research: Study ing Risk- Return Relationships The second phase of the research w i l l analyse the r i s k - r e t u r n r e l a t i on of I POs i n Ch i na . Financial theory postulates that there should be a correlation between risk and r e t u rn — prices w i l l only equilibrate at a po i nt where higher risks are compensa t ed b y h i gher expected returns. Researchers w i l l also examine the non- t r ad i ng , i n t r aday and i n t e r day vo l a t i l i t y. A Capital Asset Pricing Mo d e l ( CAPM) wh i ch provides a simple yet powe r f ul tool to estimate the relation between risk and return w i l l be used to estimate the risk-return relationship. Findings w i l l be gauged against statistics f r om other stock markets such as H o ng Kong and the US. The purpose is to investigate whether the returns over-reward the risks — and if so, why. It is expected t ha t as the ma r k et deve l ops a n d rationality returns after the initial subscription frenzy, the u n d e r p r i c i ng and v o l a t i l i ty w i l l decline over time. Phase I I I Research: Testing the Val idi ty of Two Hypotheses Th i r d l y, China's stock markets have un i que features wh i ch require special hypotheses to explain the IPO phenomenon. The relationships among different parameters such as institutional arrangements, volatility and the state of the market w i l l be examined empirically. The analysis w i l l help to examine t wo hypotheses. First, the i n f o rma t i on asymmetry hypothesis of Baron (1982) and Rock (1986), wh i ch states that investors, especially small investors, do not have as mu c h i n f o rma t i on as other parties such as the management and the underwriter, and must be ' l u r ed ' b y deliberate unde r p r i c i ng . Secondly, Masulis (1987) and Affleck-Graves (1989) have p r oposed that regulation of the s t ock ma r k e t r educes t he i n f o r m a t i on asymmetry, and shou l d therefore reduce the underpricing. However, the reverse seems to be true i n China: new issues are tightly regulated and centrally allocated, yet investors w i t h little experience i n i nves t i ng have little access to i n f o rma t i on on new issues. Is this a cause of the severe underpricing? Why is Research Important? This study has impo r t an t implications for the p r i c i n g of I POs i n Ch i n a , a nd p o l i c y o n d i s c l o s u re of c omp a ny i n f o r m a t i o n. The f i nd i ngs w i l l be i mp o r t a nt for the ma r ke t 's healthy development, for understanding the risks i n v o l v ed i n IPOs, and w i l l help shape policy for stock market regulators i n ma i n l and China. References A f f l e c k - G r a v e s, J. & M i l l e r , R.E., 'Regulatory and Procedural Effects on the Underpricing of Initial Public Offerings', Journal of Financial Economics, 12 (Fall), pp . 193-202,1989. Baron, D.P., ' A Mo d el of the Demand for I n v e s t me n t B a n k i ng A d v i s i n g a nd D i s t r i bu t i on Services for N e w Issues', Journal of Finance, 37, pp. 955-976, 1982. Brealey, R. & My e r s , S., Principles of Corporate Finance, 4th Edition, N ew York: McGr aw - H i l l, 1991. Masulis, R.W., 'Changes i n Owne r sh i p Structure: Conversion of Mu t u a l Savings and Loans to Stock Charters', Journal of Financial Economics, 18, pp. 29-59, 1987. Ro c k , K . , ' W h y N e w Issues A r e Un d e r p r i c e d ', Journal of Financial Economics, 15, pp. 1051-1069, 1986. Research 24