US Green shoe option
Wilhelm (1999) lists three existing instruments of price stabilization in IPOs available in the US. The first one is the stabilizing bid: a bid posted by the underwriter at a price close to the offer price and properly identified as a stabilization bid. This mechanism, the only one regulated by the SEC, makes the action of the underwriter totally transparent to the market. The second mechanism involves penalties to syndicate members whose costumers flip shares in the first days of trading. This mechanism aims at mitigating the downward pressure on the price caused by flipping. Imposed penalties on syndicate members are not public. The information documented on penalties is likely be only partial [Wilhelm (1999)]. The third instrument is the repurchase of shares in the aftermarket (syndicate covering transactions or aftermarket short covering): the underwriter overallots the issue by selling short a number of shares in excess to the amount originally defined. This short position subsequently is covered either by repurchases of shares in the aftermarket (aftermarket short covering), or by the exercise of the greenshoe option (a covenant that gives the underwriter the option to buy a supplementary number of shares from the issuer at the offer price). In the US there is no limit for the overallotment and it is commonly greater than the greenshoe [Edwards and Hanley (2007)]. The National Association of Securities Dealers (NASD) specifies that the greenshoe might not be larger than 15% of the number of shares issued. Chung et al (2001) reports that 92% of the IPOs in the US have greenshoe option. The stated period for the exercising of the greenshoe is usually of 30 days, although it is not restricted by law or other formal rules [Muscarella, et al. (1992)]. Finally, the underwriter is not bound to disclose information about the level of overallotment and the aftermarket short covering. When the aftermarket price remains above the offer price,...
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