Winner’s curse is the effect of incomplete information on the investors when an auction takes place. The winner of the auction, blinded by that lack of information, generally overpays and is worse off in general terms.
When valuating a company before the IPO takes place, in benefit of the objectivity it is good to move the growth ratios of the company towards the sector mean.
Otherwise the valuation may be biased towards overpricing, as the managers choose their “best suit for the luncheon”.
Managers and insiders are good at timing the market, and in an IPO scenario, they will time both the financial markets (taking advantage of “hot issue markets”, i.e.: when people is more willing to invest in IPOs, -period characterized both by higher frequency of offerings and by higher IPOs initial undervaluation) and their own company’s economic situation (IPOs generally take place after a very good economic performance of the company, coming to market with higher P/E and price to book ratios than the average of the sector.
Individual investors suffer also from betting on trends, and are prone to extrapolate that performance into the future. Failing to recognize a reversion to the sector mean for the issuing company, which is the most probable scenario. That is the bias valuators should bear in mind when assessing the value of the company.
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