Waagkapitalis Chamath Palihapitiya.
Mark Kauzlarich / Bloomberg via Getty Images
Empty check funds are hot. Wall Street investors are increasingly betting against it.
According to S3 Partners, which tracks financial data, the short positions in special acquisition companies, or SPACs, are $ 2.7 billion, more than tripling the $ 765 million at the end of 2020.
Unlike a regular stock investor, short sellers make a profit when the share price of a business drops.
According to S3, short-term interest rates rose as SPAC shares rose. There is a significant interest among traders to get such exposure in a buying area of the market, the firm said.
What are SPACs?
SPACs are similar to quasi-IPOs.
A publicly traded shell company uses investor money to buy or merge with a private company, usually within two years. Thus, the private company is traded in public. If there is no transaction within the specified time limit, investors get their money back.
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Proponents of SPAC see it as a form of venture capital that allows investors to grow at an early stage. There is also a degree of loss protection, depending on when investors buy.
But SPACs are also known as ‘blank check’ funds, because investors give money to a manager without knowing which company they can eventually acquire. Managers can identify specific industry or business targets in the initial submission, but is not obligatory to chase them, and give them essentially carte blanche.
In some cases, investors can buy the star power of a manager.
The list of SPAC sponsors includes, for example: Bill Ackman, the well-known hedge fund manager; former House Speaker Paul Ryan; former Trump economic adviser Gary Cohn; and sports icons like Shaquille O’Neal, Alex Rodriguez and Colin Kaepernick.
Among the severely short-lived SPACs are those backed by high-profile investors such as venture capitalist Chamath Palihapitiya, according to to The Wall Street Journal.
“You invest in people,” said Michael McClary, chief investment officer at ValMark Financial Group. ‘The level of trust is through the roof.
‘At the moment we are sitting [SPACs] in a bucket of gold and bitcoin, “he added. This is very speculative. And there is no financial analysis you can really do. ‘
The investment pools are not new. But they have become popular.
SPAC’s initial offer doubled to 248 last year, according to Jay Ritter, a professor of finance at the University of Florida. The IPOs will quickly double again in 2021, he said.
“The market is exploding,” Ritter said.
But the video game retailer is offering a warning to investors trying to cash in on a hot-ticket item: the stock has risen 1,700% in less than a month, after which most (85%) of its value lost in the next two weeks.
In the case of SPACs, it appears that retail investors are chasing the returns of the past, according to Ritter.
SPACs listed this year had an average return on the first day of 6.1% – about six times the average during the period 2003 to 2020, Ritter said.
““If it has not gone so well in the last six months, I do not think we would have seen this boom, ‘he said.
Reasons for caution
According to financial experts, there are reasons for caution.
Increasingly, mom-and-pop investors are not buying shares at SPACs’ initial listing price, Ritter said. (They usually assume $ 10 per share.) Retail investors who do not enter early do not participate much or not at all in the initial share price.
An important selling point of SPACs was their money back guarantee, which limits the negative risk. Investors may choose to redeem their shares when a merger or acquisition is announced, rather than becoming shareholders in the combined entity.
However, investors will not necessarily recover everything. They are entitled to $ 10 per share plus interest. If they bought higher shares on the open market – say for $ 12 – they would take a loss (about $ 2 per share, in this example). Shares in the combined entity may also fall below $ 10 when they start trading.
“As with anything, there can be some risks,” he said. Marguerita Cheng, a Certified Financial Planner and CEO of Blue Ocean Global Wealth in Gaithersburg, Maryland. “It’s not suitable for everyone in every situation.”
Yields, according to experts, were also not stronger when measured by standard measures.
The typical buy-and-hold SPAC investor earned a gross return of 45% between January 1, 2019 and January 22, 2021, Michael Cembalest wrote in a recent analyst from JPMorgan. comment. (The analysis measures returns for the median investor.)
However, investors would have earned a higher return in the S&P 500 stock index, which returned 52% over the same period.
‘Absolute returns so far, but in the bull stock markets the tides are rising all the way,’ says Cembalest, chairman of JP Morgan Asset Management’s market and investment strategy, which points out that SPACs have a strong stake in a strong stock. stock market has.
The typical SPAC fund manager also made a lot more money than investors – according to Cembalest, this is a return of 682% over the two-year period.
This is partly due to the structure of the funds: managers usually get a 20% stake in the acquired company at low upfront costs. However, they get nothing if an agreement does not materialize.
They therefore have an incentive to enter into transactions. It can be more difficult to acquire goods in a market flooded with investor capital.
“The SPAC boom could eventually bring much earlier, much riskier businesses to market,” according to Cembalest.