Break This Sacred Investing Rule to Profit From SPACs
No doubt about it, 2020 is the year of the SPAC.
Special purpose acquisition companies, better known as SPACs, have been getting lots of attention this year, and for good reason.
And if you’re planning on investing in them, you should break one ironclad investing rule…
First, some background.
SPACs are having a record year, raising more than $57 billion in gross proceeds so far — that’s more than four times the capital SPACs raised last year. And about a dozen of these investment vehicles have generated triple-digit returns so far this year.
They’re not showing many signs of slowing down, either: There have been 151 SPAC IPOs in 2020, signaling that many more of these opportunities will be coming online in the months ahead…
As a quick refresher, SPACs are basically “blank-check companies.”
Here’s how they work…
A SPAC goes public, full of investor cash and looking for an attractive privately held business to take public. Typically, a SPAC looks for an acquisition target with some kind of theme — it could be electric vehicles or maybe space tech or cannabis.
(Sometimes, SPACs have a specific acquisition target in mind when they go public. But they aren’t required to disclose it beforehand.)
Once they’re publicly traded, the clock starts ticking. In a typical arrangement, the SPAC has two years to make a deal or return its cash to investors.
Break This Investing Rule to Win from SPACs
SPACs have a dirty little secret.
According to data from Renaissance Capital, the average SPAC actually underperforms the average traditional IPO. That data is a little skewed because it primarily includes SPACs that did their deals before SPACs became mainstream and reputable this year.
Still, the important takeaway is that you need to break a key investing rule if you want to be a successful SPAC investor: Don’t diversify!
I know, diversification is one of the sacred tenets of smart investing.
But not in this case…
SPACs have moonshot gain potential — because of that, it’s important not to water down your most exciting SPAC holdings with “average” names.
Diversification is a wise strategy for your core portfolio holdings, but not for more speculative opportunities where the lion’s share of the returns can come from a small handful of names.
Instead, it’s better to take a smaller chunk of your overall portfolio and put it in the select SPACs that you think are most likely to deliver explosive returns.
Doing that is likely to yield better results than owning big baskets of SPACs like ETFs.
Of course, that begs a new question — which SPACs are the ones should you own?
Stay tuned… We’ll be digging deeper into the SPAC-o-verse in future letters.
Jonas Elmerraji, CMT