Investment houses test climate for offering new stock issues
The new-issues stock market is finally poking its head out to see if its long Wall Street winter has ended. Although the Dow has made respectable gains since last November, new offerings have held back in both volume and performance, waiting to see if the rally would blossom. Recent activity indicates cautious optimism. Both February and March saw steady increases in the number of new issues, after a discouraging low in January.
The new-issues market plays an important role in the stock market. It is where investment banking firms -- E. F. Hutton, Salomon Brothers, Prudential-Bache, etc. -- bring their corporate clients to raise money through a stock or bond offering.
The volcanic tip of that market is initial public offerings (IPOs), where a company opens up to the public with its first stock offering. IPOs, in turn, sometimes bring in the ``hot deals,'' those where the stock rises to a premium over its offering price the minute it opens on the market.
From late 1982 through the end of '83, when the Dow soared, hot deals characterized the new-issues market. In 1982, for example, Lotus Development Corporation went public at $18 a share. As soon as trading opened, the stock popped to $22.
Another high-tech stock, Genentech, entered the market at around $35 and didn't stop climbing until it reached the mid-80s. Even plain old savings-and-loan stocks burned a path to premiums.
Those days vanished as the Dow headed for 1,100. The number of new issues crept steadily downward through 1984 as investors turned a cold shoulder on all but a few. But now the syndicate departments of both Wall Street and regional investment firms that place stock in the market report much brisker business.
``We're busy,'' says Richard Smith, syndicate manager at Prudential-Bache Securities. ``It's nothing like it was back in 1983, when we were working five deals a day. But the pace has become much quicker. . . . We have a number of deals ready to go, about six or seven. We did one today, two last week. We've been fairly active.''
``Right now, we have 28 deals on calendar,'' says David Weild, a syndicate analyst with the Denver-based Boettcher & Co. ``There was a point in January where we had, at most, 10 deals.''
Wall Street watches new issues closely. They act as a vote of confidence on the market by investors. If buyers think the market holds future strength, they look kindly on these offerings. New-issues investors are typically more sophisticated than most, and they want a strong stock market to support the downside of their purchases. ``It's still not one of those `anything goes' markets,'' says Mr. Smith.
To bring those buyers back, investment bankers avoid the speculative high-tech issues that were common two years ago. ``The quality of companies in general is much higher than what we saw at the height of the new-issue market in 1983,'' says Mr. Weild.
``I wouldn't say that the market is heating up. It is very receptive to high-quality IPOs,'' says John Rummo, first vice-president and syndicate product manager at E.F. Hutton in New York. ``It's a very selective market. Those companies that have a good history of earnings and are priced at a reasonable multiple are getting a good reception. It is unlike the hot market in 1983, where the frenzy kept feeding on itself.''
``I've seen some very nice companies,'' says Rich Fenton, who dabbles in new issues for Fidelity Mercury Fund, a small growth fund in Boston. ``The companies I'm seeing today have longer records, better histories. The rush is not on to come in and do it and get on to the next offering, like it was in 1983.''
The investment firms have also peppered the market with alternatives to straight stock offerings. One example: convertible preferred issues, where the investor buys a corporate bond that pays interest and can be converted to common stock in the future. The bottom line for investors is a market-level yield plus a play on the stock price if it increases.
``Convertible securities are very much in vogue,'' comments Pru-Bache's Smith, ``because people are not quite sure about this market.''
Real estate investment trusts are another vogue item. The Mellon Real Estate Investment Trust from E. F. Hutton hit the market last month with a $10-a-share price and a 10 percent yield. Mellon Bank will use the $75 million for mortgages -- in return for 20 percent equity -- on commercial properties.
``For a limited amount, the customer is getting the services of a very knowledgeable real estate investor,'' says Hutton's Mr. Rummo. ``How else can the average investor go after a commercial piece of real estate?'' Rummo says the deal was originally pegged for $25 million, but investor demand pushed it to $75 million.
Although scarce, hot stock deals have not completely disappeared. A New York food company called Pasta & Cheese came in March 4 at $6 a share, promptly went to $11.50, and kept going to $14 by March 12. Another company, LSI Lighting, was priced at $12.50, opened in the aftermarket at $15.50, and went as high as $17. Nor are untested high-tech companies completely out of the question. Hambrecht & Quist, a San Francisco investment banker that specializes in high-tech deals, is bringing Encore Computer to market.
``It's real speculative,'' one syndicate manager comments. ``The company wants to raise $30 million to build a 16-bit computer. It's a new company. It has no earnings history but an all-star cast for management.'' Several syndicate managers see Encore as a test of the market waters for other high-tech IPOs.
Not everyone is impressed with this market. ``If there are good deals coming through, they are few and far between. The quality of merchandise is not that good,'' says Ken Knutel, who runs equity research and a growth fund for Kemper Financial Services in Chicago.
He and some other money managers take exception to the prices carried by the new issues. ``The underwriters are pricing on a pretty rich basis,'' he says.
``There seem to be some good deals,'' says James Craig, manager of an aggressive fund for Janus Capital in Denver, ``but they started raising the prices of these issues very quickly after the market heated up. That's taking a lot of the starch out of the market.
``They're pricing the stocks as if we are in a very robust market, but we're not.''
``I don't think the market for new offerings is in that good a shape right now,'' says Mr. Knutel. ``I can certainly say that we are very much less active than we were a year and a half ago. I've talked to other people who tell me the same thing. There was quite an upsurge in small-stock prices back in January, and I guess the underwriters believe that will happen again. I'm not so sure.''