What has explained IPO underpricing?

For the period 1998 to 2004, the average first-day return on initial public offerings of common stocks is 33%. This paper explores what has explained the IPO underpricing. Using data on 1598 firms-commitment, I find the cross-sectional distribution of one day average returns is modelled better as a mixture of three components: underwriters\u27 reputation, industry composition and market valuation. I also examined the difference in initial average return between issues underwritten by prestigious banks and nonprestigious banks. I find, during the tech bubble period 1998-2000, the underwriters\u27 reputation is positively related to IPO initial returns; and during the post-bubble period 2001-2003, IPOs managed by more reputable underwriters are associated with less shortrun underpricing. As time changes, underwriters\u27 reputation is not a significant determinant of IPO initial returns. The firms industry and market valuation are consistently positively related to the IPO initial returns