The Impact on Performance of IPO Allocation Reform : An Event Study of Shanghai Stock Exchange A-Shares

The purpose of this paper is to investigate the changes in initial public offering (IPO) underpricing and short-run performance following a regulatory reform (No. 54 [2002] China Securities Regulatory Commission (CSRC)) of the method of allocating IPO shares in China. On 20 May 2002, the CSRC announced that IPO subscription and allotment would be based on the market value of investors' tradable shareholdings. Before the regulatory change, this was determined by the amount of funds used for subscription. The reform was intended to increase participation by both smaller and institutional investors. Based on a sample of 209 IPOs in the Shanghai A-share market during the period 2001-2003, the paper employs an event study methodology to examine the impact of this IPO regulatory reform. The paper finds that the overall (pre- and post-reform) average abnormal initial return of 116.94 per cent is lower than in earlier studies of Chinese IPOs but higher than in other markets. Post-reform underpricing decreases by 42.27 per cent compared to pre-reform levels. In the post-listing aftermarket a pre-reform upward trend of cumulative abnormal returns was reversed to become downward post-reform. The results suggest that the regulatory change has encouraged well-informed investors, consistent with Information Cascades and Bandwagon hypotheses. It also appears that the reform improved market efficiency and secondary market liquidity. The findings shed light on the relationship between IPO costs, IPO pricing, market liquidity and market microstructure. They also have important implications for issuers, underwriters and in particular for policy markers