Investing in initial public offerings was a sure shot way of making money in the markets.

Till a few months ago, most new issues would list at a huge premium, and investors only had to laugh their way to the bank. But that is not the case any more, and many recent issues are trading lower than offer prices today.

Of the 39 IPOs that entered the markets from January to April 2006, 30 companies have given positive returns while the rest trade at a discount to their offer price.

During the same period, out of the 12 follow on issues, three scrips are now trading below the floor price.

In the recent past very few IPOs were trading at a discount to the issue price but the ratio of these under-performers has increased to a staggering 25 per cent for the IPOs that came out in 2006 so far from 10 per cent of the new issues in the fourth quarter of 2005.

As the markets continued their northward march breaching their all-time highs with both large and small companies doing well, a host of newcomers thought that this was the right time to foray into the markets and cash in on the euphoria.

The markets welcomed the scurry of IPOs and follow-on issues with a mad rush of investors to get their share of the fresh platter. While some companies were solid, there were some aggressively priced issues.

What did well...

The major IPOs listed in the past four months posted significantly higher returns as compared to the Sensex gains of 28.24 per cent. Tantia Constructions [Get Quote], Tulip IT Services [Get Quote], Educomp Solutions [Get Quote], Sadbhav Engineering [Get Quote], INOX Leisure [Get Quote], Punj Lloyd [Get Quote], Sun TV [Get Quote] and Pratibha Industries [Get Quote] were some of the star performers.

The spectacular show put up by these scrips should be attributed not only to the strong business models, reasonable pricing of the issues, attractive valuations and sectoral activity, but also to the bullish scenario and liquidity in the stock markets.

Rajat Jain, CIO, Principal PNB Mutual Fund says, "Right pricing, good business models and strong fundamentals have led to the success of major IPOs."

Infrastructure, engineering and construction stocks were clear winners as they attracted tremendous interest backed by robust sectoral outlook. Punj Lloyd has a robust order book, good earnings visibility and high growth phase make it a promising bet.

Other companies in these sectors like Tantia Constructions, Sadbhav Engineering and Pratibha Industries also registered huge gains. Stocks in the media sector experienced a swift run on the bourses as the future outlook is positive. As a result, Sun TV, INOX Leisure and PVR were strong gainers.

...and what didn't

However others like Jagran Prakashan [Get Quote], R Systems International [Get Quote], GVK Power & Infrastructures, Dynemic Products [Get Quote], Powersoft Global, Nitin Spinners [Get Quote], Malu Paper Mills [Get Quote] and Visa Steel [Get Quote] were listed almost at or below their issue prices and are today languishing at much lower levels. These stocks took a beating on the bourses either due to improper pricing or weak near term expected returns to investors.

Paras Adenwala, CIO, ING Vysya Mutual Fund says, "No doubt the primary markets saw much activity on account of the overall market levels. Quite a few stocks were aggressively priced to cash in the bullish sentiments in the market. But the market correctly discounts the current as well as future company outlook and now the same scrips are finding their right levels."

"I would not say that over-pricing is the reason for the poor performance of all these companies. Some of the companies have taken up projects which have longer gestation periods and revenues will start flowing after some time," says a merchant banker of one these underperforming IPO.

Visa Steel raised funds for greenfield projects, which will be commissioned by 2007 end. Aggressive pricing and no immediate earnings visibility led to the fall in its stock price.

The rising ratio of under-performers need not be a major cause of concern as it is a part and parcel of a very bullish market.

"Even if we consider the performance of the secondary markets in the past couple of months, 25 per cent of the stocks have been losers on the bourses", says Kenneth Andrade, vice president-equity, Standard Chartered Mutual Fund and the fund manager of the Enterprise Equity Fund, a recently launched fund which will primarily invest in IPOs.

What should investors do?

According to Prime Database, 280 companies are likely to raise funds upto Rs 85,000 crore (Rs 850 billion) through IPOs in the next two years. DLF, MCX and Oil India are some of the major companies that will soon enter the primary markets.

"The 30 issues in 2003-04 gave returns of 40 per cent on listing, in 2004-05 almost the same number of issues posted returns of 38 per cent on listing. The year 2005-06 welcomed about 71 companies, which registered gains of 35 per cent on listing. So in the past three years the performance of IPOs has not diminished significantly and considering the pipeline of issues we think that the scenario looks quite encouraging," Andrade points out.

No doubt, there is money to be made from the forthcoming IPOs, but with the market getting flooded, investors will need to make a clear choice.

With the Sensex trading at a P/E of 21.65 times, investors should note that though valuations may be justifiable at the company level, they still need to exercise caution as valuations in the secondary market are high.

The key is to concentrate on companies where the valuations are in line with the fundamentals.

Adenwala's says, "We will witness a lot of activity in the primary markets in the coming months but investors need to be selective. The three things they should consider before investing are the promoter's commitment to the venture, growth visibility and comparative valuation of the company."