Are Malaysian IPO Investors Influenced by Sentiment Factors or Fundamental Factors?

Research Question: This study constructs and employs a composite market sentiment index, and a full range of issue, firm, and market characteristics variables to study Initial Public Offering (IPO) markets in Malaysia. Motivation: Radical changes in the Malaysian financial environment, particularly changes in Malaysia’s capital market structure in the past few decades, may have increased heterogeneity in the composition of participants and impacted investors’ risk-taking behavior. This study provides a more comprehensive understanding of the dynamics that shape IPO behavior in Malaysia. Idea: The main objective of this study is to study market sentiment and Malaysian IPOs. To determine whether Malaysian IPOs underpriced, and to identify their key determinants from behavioral and fundamental perspectives. Data: This study investigates 571 IPOs firms listed on Bursa Malaysia from January 2000 to December 2020. Method/Tools: Multiple and binary regression models are employed to examine the determinants of IPO underpricing. Additionally, interaction analysis and marginal probability analysis are used to explain the short-run IPO share performance. Three different methods are used to construct the Malaysian IPO Market Sentiment Index: (1) Baker and Wurgler’s (2007) Principal Component Analysis method; (2) Jiang et al.’s (2022) Scaled Principal Component Analysis method; and (3) Huang et al.’s (2015) Partial Least Squares method. Findings: This study found that overall the Malaysian IPOs underpriced by 28.48% based on the market-adjusted initial return. The findings evidence that sentiment factor plays a significant role in the short-run IPO share performance. The results of this study is consistent with the study by Leite (2005) shown that the presence of sentiment investors in IPOs reduces the winner’s curse problem (Rock’s hypothesis) in the issue by increasing the relative probability for the least-informed (rational) investor to be allocated underpriced shares. Contributions: This study acknowledges the limitations of neoclassical finance theories in explaining the behavior of investors in Malaysian IPO markets. By incorporating behavioral finance theories, this study recognises that fundamental factors might not be the sole driver of investor decisions. This shift in focus toward market sentiment and psychology adds a fresh perspective to understanding IPO underpricing.