Secondary offerings

Secondary offerings occur when companies issue additional stock to the public. Companies do this because they want or need to raise additional capital. Secondary offerings increase the public float and can be perceived as a positive or negative move for the company issuing the shares.

If the company is doing well, with consistent earnings growth in a positive market environment, then the secondary offering could be well received. If the company is doing well fundamentally, and moves forward with a large secondary offering in a weak market environment, investors may question why the company was in such a rush to unload its stock, and it could be taken as a negative sign. If the company has negative fundamentals in a weak market environment, a secondary offering could be a favorite for the shorts, and the stock might be in for a double whammy to the downside.

Profit takers and shorts love to take a shot at companies that have large secondary offerings on a day when the market is under a lot of pressure. In a situation of this sort, the investment bank that is leading the books on the secondary will do everything in its power to stabilize the offering at its issue price. This involves invoking what is called the green shoe option, which provides the underwriter with a predetermined quantity of shares to use in order to stabilize the stock at or below the offering price. It is up to the investment bank whether to invoke the green shoe, and how much of the green shoe to use.

In a weak market environment, sellers hit the stabilizing bid with size, using the liquidity to take advantage of what they believe to be an artificially high price. In a well-received secondary that opens in a strong market environment, buyers go long, using the spot where the secondary was priced as a stop-loss, knowing that the stabilizing bid should be there to defend the stock.

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