Amid the flurry of initial public offerings (IPOs) of Spacs in the US, investors should be cautious about the current structure of these vehicles.
“While we recognise some benefits of Spacs for allowing a faster entrance to the market and a wider spectrum of companies to go public, we believe the current structure of Spacs favours more short-term speculative trades,” said Vincent Mortier, Amundi’s deputy chief investment officer.
They are less favourable, he added, for investors who look at business models, growth perspectives and at a company’s ESG profile to build an investment case.
Alarm bells ringing
As companies created and listed on an exchange with the purpose of buying a growth company later, Spacs were derived as an easy way for companies to go public and avoid a long and sometimes difficult quotation process.
Abundant market liquidity and a return to a pro-risk mind-set in the wake of the pandemic have contributed to a rising euphoria that has benefitted Spacs, explained Mortier. For example, after a record year in 2020, the first quarter of 2021 saw the IPOs of almost 300 Spacs raise nearly $100bn – representing over two-thirds of the total value of IPOs in the US market.
Yet understanding the structure, costs and risks associated with Spacs is not as straightforward as investors might think, said Mortier.
In addition, the fact that some Spac mergers announced didn’t come out as expected has put pressure on their performance, he added.
Notably, the IPO Spac index is in bear territory, with losses above 20% since their peak, despite a positive year-to-date performance for the overall market.
“The Spacs phenomenon is now reaching a tipping point. The resetting of market performance comes at a time of greater scrutiny from the Securities and Exchange Commission that has already started to issue some warnings for investors and is questioning some Spac practices,” explained Mortier.
Finding the balance
Divergence in this market is inevitable. And Amundi believes it will start to emerge over the next few months.
This will happen, said Mortier, as “more than 400 Spacs look for target companies to merge and investors start to be more nervous, looking for performance as with rising yields, bond market alternatives become more appealing, compared with parking money in a Spac and waiting for a deal.”
Until this transition results in a more resilient Spac market, Amundi suggests investors bear in mind the various dynamics of these vehicles:
Three main benefits:
- The structure of shares and warrants plus the right to redeem before the merger
- Spacs can allow a larger universe of companies to list, that otherwise would be excluded through a normal IPO process
- Spacs allow for forward-looking projections not allowed in IPOs
Three key shortcomings:
- Spac investors don’t know what they are investing in
- There is a potential conflict of interest for sponsors due to the two-year timeline to find a deal
- Excess euphoria in the Spacs’ IPO process and pre-merger phase may benefit investors that redeem their shares more than investors that participate in the merger
Four big challenges to the Spac boom:
- Increasing regulation is on the horizon
- Short selling of Spacs is on the rise
- There is a large supply of Spacs in search of targets
- Rising bond yields could challenge the attractiveness of Spacs
