Privately owned organizations may choose to sell small portions of company ownership to the public via the stock market. The first instance of this type of selling is called the initial public offering (IPO). Occasionally, a group of private investors creates a common pool of monies specifically for acquiring this newly traded stock. The resulting fund, called a mutual fund IPO, has the potential to return large profits. Conversely, a business that is new to the stock market is often relatively untested, so these types of funds carry a certain amount of risk.
Initial public offerings are generally not sold directly by the issuing company. Instead, a group of specialized lending institutions, called an underwriting syndicate, collectively take the risk of offering the shares to the public. Essentially, these syndicates loan the organization offering the IPO a dollar amount approximately equal to the projected sale of stock. As these lenders are effectively using the stock as collateral, it is likely that they have conducted an extremely comprehensive due diligence audit of the issuing organization. As such, the financial risk to a mutual fund IPO from the purchase of this stock is not as great as it would first appear.
Unfortunately, even well-researched businesses can fail to be profitable. In addition, a profitable company is not necessarily a well-traded company. Therefore, the financial risk to an individual investor purchasing stock in a single IPO is significant. A mutual fund IPO can reduce this danger by investing in several initial public offerings at one time. Theoretically, profits made by successful ventures will more than offset the losses of fruitless endeavors.
Those individuals looking to invest in a mutual fund IPO can find themselves overwhelmed. While the top-performing funds are wildly successful, many have a required minimum investment that is beyond the comfort level of the average person. Those funds with lower thresholds are generally new to the market or have a history of low yields. IPO funds that specialize in very high-risk markets, such as Internet companies, often have lower initial investment requirements as well.
As a rule, those investing in initial public offerings should never gamble more than they are willing to lose. For young investors or those with excess capital, the possibility of high yields may be worth the risk. However, it is important to note that a mutual fund IPO is, by definition, unbalanced. This type of mutual fund usually lacks risk-stabilizing investments like bonds and treasury notes. So, these funds are not appropriate for the middle to late stages of retirement planning.