Important informations: The value of investments and the income from them can go down as well as up, so you may get back less than you invest.

Speak to anyone who’s familiar with the stock markets, and they’ll tell you the same thing: ‘don’t chase stocks’ - that is, don’t buy hot shares at just any price. Press your market-wearied veteran further, however, and chances are that even they will have fallen prey at some point to the lure of an IPO.

Initial Public Offerings (IPOs) give private investors the chance to buy shares in a company from the moment it lists on a stock exchange. The buzz they generate can provide firms with the momentum they need for a successful lifetime on the public markets. But that’s not always the case - when WeWork, the real estate company that provides shared workspaces, announced its plans to go public last August, concerns over its profitability and its chief executive saw the company postpone (and eventually cancel) its IPO. Its valuation tumbled from $47 billion in 2019 to $2.9 billion this March.

An IPO’s success depends on the level of confidence buyers feel towards that stock. Perhaps it’s no surprise then that, even in this strangest of years, a number of Silicon Valley companies have decided to join the wave of enthusiasm for US tech companies and take the plunge to go public.

Last week, a dozen companies joined the stock market, many in the technology field. The recent rush has seen the amount raised in 2020 reach the highest level since 2014, when the Chinese ecommerce giant Alibaba set a record with its $25 billion flotation.

Three Silicon Valley firms in particular have caught investors’ eyes: Unity, a video game technology company that raised more than $1 billion last week; Asana, a software company designed to help teams’ productivity that’s set to list later this month; and finally, to the largest fanfare of all, Snowflake, a cloud computing business that achieved the biggest flotation of the year and the largest since Uber last year.

Besides occupying the same sector, the trio also share a history of making losses - but that certainly hasn’t dampened investor enthusiasm. When Snowflake listed last week, it became the largest tech company to do so in the US. Its shares initially sold for $120, up from a proposed $75-$85 pricing, and soared to $300 over the course of their first day of trading, making the company the largest ever to double its value on its opening day. All in all, Snowflake reached a valuation upward of $70 billion.

Dot.com 2.0?

IPOs are strange beasts, which have the power to transform a company’s fortunes over the course of a single day. But the combination of tech, high valuations and excitement from new investors will conjure up only one memory for the seasoned investor - the dot.com bubble 20 years ago.

This is the mental hurdle many of us struggle to overcome when we see months like this.

Consider Snowflake’s position in its wider context. That $70 billion valuation is about 140 times its most recent revenues, or nearly six times the $12.4 billion investors thought the company was worth in a private fund-raising earlier this year. There may be good reasons to be optimistic about Snowflake’s prospects but it’s certainly worth bearing in mind, as the next new tech titans inevitably come along, that huge US tech companies are starting to dominate investors’ portfolios and enthusiasm for the sector is in danger of detaching valuations from the fundamentals.

There is a train of thought that says the dot.com bubble two decades ago just came too early - after all, the survivors are now the biggest companies in the world. But for every winner there are a thousand losers, even taking into account what happens the first time the stock exchange bell is rung.

Spotting the next big thing is tempting but is normally something we profess to being good at only after we get one right. Hindsight bias tends to help us leave out the ones that didn’t go so well.

Only time will tell if the tech tide will eventually turn. But, in times of reportedly paradigm-shifting mania it pays to remember the very basics of long-term investing - giving our portfolios time to compound and grow, and not snatching at the hottest new fad.

Learn more about share dealing here.

Important information: The value of investments and the income from them can go down as well as up, so you may get back less than you invest. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.

Topics covered

North America; Shares; Volatility

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