Important Role of Anchor Investors in IPOs

Initial Public Offerings (IPOs) are one of the most exciting events in the financial markets, and it is especially true if the company with the IPO is a well-known brand. An IPO provides the company with an opportunity to raise funds from the public, while it gives a chance to public to buy shares of the company at the start of its journey in the public market. However, the success of the IPO depends on the confidence of the investors in the company and one of the key elements is the role played by Anchor investors.

In this article, we will understand who are anchor investors, their significance in an IPO, and how their participation impacts the sentiment of retail investors.

Who Are Anchor Investors in IPOs?

In the Indian context, Anchor investors include institutional investors, such as mutual funds, insurance companies, foreign portfolio investors (FPIs), or sovereign wealth funds. These set of investors are invited to invest in an IPO even before the issue is opened to the public for subscription. They are allotted shares at a fixed price by the company and the underwriters.

The concept of Anchor investors was introduced by the Securities and Exchange Board of India (SEBI) in 2009, the aim was to instill confidence among retail investors and generate demand for the IPO.

Here are the key characteristics of anchor investors:

They must apply for a minimum amount of Rs 10 crore worth of shares. For SME IPOs the threshold is Rs 1 crore.

They are allocated shares on a discretionary basis before the IPO opens for other investors.

To prevent immediate selling by them, there is a lock-in period of 30 days for 50% of the allocated shares, and for the remaining 50% it is 90 days. It means anchor investors can’t sell half of their shares until 90 days have passed and the other half can be sold after 30 days.

Significance of Anchor Investors in IPOs

Anchor investors play an important role in shaping the success of the IPO. Here’s why they are important.

1. Building Confidence Among Retail Investors

Participation from credible and reputed institutional investors as anchor investors signals to the retail investors that the IPO is worth considering. The presence of big institutions encourages retail investors to evaluate the quality of a company’s fundamentals.

For example, when Zomato came with its IPO in 2021, marquee investors like BlackRock and Fidelity International participated, this increased the confidence of retail investors to participate in the IPO, and was one of the reasons that the IPO got oversubscribed.

2. Improvement of IPO Stability

Large sums committed by anchor investors create a stable base of investments for an IPO. This ensures a lower risk of volatility or undersubscription, this ensures that the IPO gets a positive response from the market.

3. Setting a Benchmark for Pricing

Anchor investors participate at a pre-determined price. It thus becomes a benchmark for other investors and sends a strong signal that the price band set for the IPO is fair and reflective of the company’s valuation.

How Do Anchor Investors Influence the Sentiment of Retail Investors?

Retail investors, particularly in India, tend to follow market signals and trends in making investment decisions. Here’s how anchor investors affect their behavior:

A Vote of Confidence

The presence of well-known institutional investors as anchor investors in IPOs is regarded as a stamp of approval for the IPO. For example, the presence of anchor investors such as Vanguard, or domestic giants like LIC, reassures the retail investors about the company’s prospects.

Market Buzz and FOMO

When reputed and well-known anchor investors participate in an IPO, it creates media buzz and excitement in the market. This often creates a FOMO (Fear of Missing Out) sentiment among retail investors, thereby encouraging them to participate.

Reduced Risk Perception

Anchor investors undertake significant due diligence before investing, this makes retail investors feel more secure and helps reduce risk perception among them.

Examples of Anchor Investment in IPOs in India

LIC (Life Insurance Corporation of India)

The Life Insurance Corporation (LIC), was one of India’s largest public offerings, The IPO drew considerable participation interest from anchor investors like GIC Singapore and SBI Mutual Fund. Their participation helped stabilize the offering and boosted confidence among retail investors.

Nykaa IPO (2021)

Nykaa’s IPO attracted anchor investors such as Abu Dhabi Investment Authority and T. Rowe Price, among others. This ensured that there was a huge demand for the IPO, resulting in its very impressive listing.

Paytm IPO (2021)

Although Paytm IPO faced criticism post-listing due to valuation concerns, the participation of anchor investors Blackrock and CPPIB helped to create the initial hype and demand.

Benefits and Challenges of Anchor Investors

Benefits

Enhances Market Credibility: Their presence adds credibility to the IPO.
Encourages Oversubscription: If the anchor book is subscribed well, then it may lead to oversubscription from other categories.
Improves Valuation Confidence: It helps to justify the price band to other groups of investors.

Challenges

Short Lock-In Period: The anchor investors have a lock-in period of 30 days. The period is too short to prevent long-term volatility if the anchor investors decide to sell their shares immediately after the expiry of the lock-in period.
Market Sentiment Dependency: An exaggerated reliance on anchor investors can lead to misplaced confidence even if the IPO fundamentals are weak.

What Should Retail Investors Consider?

Though the participation of anchor investors is crucial and lends credibility to the IPO, retail investors should not solely rely on them when deciding to invest in an IPO. Here are the key points to keep in mind.

Understand the Business Model: Analyze the company’s business model, financials, and growth potential.
Read the Red Herring Prospectus (RHP): Thoroughly read the RHP, it contains critical information about the IPO, which mentions the risks, use of funds, and company strategy.
Evaluate Market Conditions: Evaluate the broader market trends and sector performance before investing.

Conclusion

Anchor investors are a crucial component in the IPO ecosystem. By instilling confidence, ensuring stability and creating demand among other groups of investors for the IPO, especially among retail investors they play a significant role in the success of an IPO.

However, as mentioned above retail investors should conduct due diligence before investing in an IPO, instead of blindly following the lead of retail investors. A balanced approach that combines market research along with the understanding of anchor investor participation can lead to an informed decision.

Happy IPO Investing!