Initial Public Offering (IPO): Lock-in Period
11 January, 2025
Synopsis
- The IPO lock-in period is a period when shareholders are not allowed to sell their shares.
- This helps avoid a sudden drop in stock prices due to an oversupply of shares in the market.
- Following the end of the lock-up period, you may witness increased volatility in the stock prices as investors may begin selling their shares.
A lock-in period is applied to prohibit investors from selling their shares when a company debuts on the stock market through an Initial Public Offering (IPO). The IPO lock-in period holds significant weight that can influence market dynamics and investor sentiment. Read on to understand the significance of the lock-in period in an IPO.
Understanding the IPO Lock-up Period?
The IPO lock-up period is a specific period following an IPO during which shareholders, such as early investors and company insiders, are not allowed to sell their shares. By preventing a sudden surge of shares into the market during this temporary restriction, market regulators aim to stabilise stock prices during the post-IPO period.
The duration of the lock-in period varies for different investors. As per SEBI guidelines, there can be three different lock-in periods:
There will be a 90-day lock-in period on 50% of the shares allotted to the anchor investors, followed by a 30-day lock-in period on the remaining 50% of the shares. Earlier, the lock-in period was only 30 days, but now it has been extended to 90 days.
For promoters, the lock-in period is slightly different. The lock-in requirement for allotted shares up to 20% of the post-issue paid-up capital is 18 months, which was three years earlier. The lock-in period for allotted shares of more than 20% of the post-issue paid-up capital is reduced to six months, which was one year earlier.
The lock-in period for non-promoters is six months, one year earlier.
What are the Reasons for Imposing an IPO Lock-up Period?
The IPO lock-in period serves several essential purposes that benefit the company going through the IPO process and its investors.
Price stabilisation
The IPO lock-in period prevents investors from quickly cashing out on their shareholdings. This helps avoid a sudden drop in stock prices due to an oversupply of shares in the market. The stability in stock prices benefits both the company and investors, as extreme price fluctuations can impact investors’ confidence and could lower the value of shares over time.
Preventing Insider Trading
The lock-in period restrains insiders from leveraging their privileged information about the company’s performance and plans. If some were to sell their shares immediately after the IPO, it could raise concerns about insider trading. This could also influence other investors' decisions and affect the company’s reputation.
Foster Long-term Investments
The lock-up period encourages investors to maintain a long-term financial objective when investing in a company’s growth and financial success. Insiders are likelier to remain invested in the company’s future without the immediate option to sell their shares.
Demonstrating confidence
Insiders who voluntarily adhere to the lock-up period show their confidence in the company’s long-term prospects. Refraining from selling their shares sends a positive signal to the market that the company has strong growth potential and that investors can earn significant returns by investing in the long term.
Why is the Lock-up Period Important for Investors?
Potential Stock Price Fluctuations
Investors may anticipate a temporary increase in selling activity once insiders sell their shares. This influx of supply could put downward pressure on the stock price. If insiders are not selling their shares significantly, it could signal that the company possesses substantial growth potential. This observation might be indicative of a favorable long-term investment opportunity.
Post-lock-up Volatility
Following the end of the lock-up period, you may witness increased volatility in the stock prices as some investors begin selling their shares. You can wait for this volatility trend to stabilise if you have enough risk tolerance and earn more from your shares after the market absorbs the additional supply.
As an investor, you must be mindful of the IPO lock-up period expiration and stay vigilant about market activities related to the shares you have invested in. Your investment decisions should always be based on a comprehensive understanding of the market and the company’s prospects.
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*Disclaimer: Terms and conditions apply. This article is only for educational/ informational purpose. It does not make any recommendation to act or invest.
