Very interesting what I read these last two days about Facebook‘ stock market adventures. The Business Insider’s Henry Blodget, explains them very worldly. Facebook, which became “public” a few months ago with an Initial Public Offer of $38 per share (fantastically over-evaluated in my opinion and not only mine), dropped it’s stock market values at $19, which is quite half. This seems to be a maneuver of the investment bankers who handle the shares’ trading. They were paid over $170 Millions to sell FB stocks which caused them drop to $19. This is possible by selling Facebook stock they didn’t own and then cashing in when the price dropped.
Blodget explains with logic how this happens, through a mechanism Wall Street banks use in most IPOs, which gives the banks the option to sell up to 15% more stock than is initially expected to be sold in the IPO. The stated goal of this option is to enable the bankers to match supply with demand more closely and, thus, reduce the volatility that might follow the IPO pricing. This option also allows the bank to buy stock in the after-market without taking undue risk – thus “supporting” the price of the stock. When there appears to be “excess” demand for stock on the IPO, the bank has the ability to sell 15% more shares than it has already agreed to sell. In selling these shares, the bank takes a short position in the stock, by selling shares it doesn’t yet own. If the bank were selling shares it didn’t have a right to buy later at a specific price, the bank would be taking huge risk. The stock might go up, forcing the bank to buy back stock to cover its short at a much higher price. But the just mentioned option above, allows the bank to buy another 15% of shares from the company at the IPO price, thus allowing it to sell additional stock on the IPO without taking the risk that the stock might go up. The bank gets paid its full IPO commission on the extra shares it sells on the IPO, so it has an incentive to sell them regardless of how much excess demand there is. And there’s no risk to the bank if the stock price jumps, because the bank can cover its short buy buying the stock back at the IPO price. Just as simple. With Facebook, the investing banks supported IPO price in the first day, to make a closing just above it. After that day, they gave up on supporting the stock and it has traded down from there. Have you seen Margin Call? Excellent movie. You’ll understand more by watching it and by reading Business Insider more often.
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