SPACs are becoming less and less secure as deals get stranger and stocks roll
Traders work on the trading floor of the New York Stock Exchange (NYSE) in New York, USA on January 31, 2018.
Brendan McDermid | Reuters
Things get strange in the sizzling SPAC market. A recreational SPAC is now doing a biotech deal while a cannabis blank check company merged with a space company.
Sponsors are rushing to do their business in an increasingly crowded space as more than 370 blank check companies with capital of over $ 118 billion seek a match, according to SPAC Research. Almost 60 SPACs identified their merger targets in February alone, the greatest month of all time.
“They’re getting lower and lower quality companies public,” said Ross Mayfield, investment strategy analyst at Baird. “You are encountering the capacity of decent quality companies, especially in popular niches.”
With intense competition, deadline pressures, and a volatile market, some SPACs have had to settle for less than ideal goals and in some cases toss their entire blueprint out the window. And the rally in glowing SPAC stocks has started to prolong as shareholders scramble to repay it if deals turn out to be disappointing.
The proprietary CNBC SPAC 50 index, which tracks the 50 largest pre-merger blanket check trades by market capitalization, has fallen more than 15% in the past two weeks, wiping out any gains from 2021. The CNBC SPAC Post Deal Index, which is comprised of the largest SPACs to hit the market that have announced a target, fell by a similar amount and is now down 10% year over year.
Last month, Leisure Acquisition Corp., a SPAC that originally targeted a recreational company as the name suggests, announced a $ 200 million deal with Ensysce Biosciences, a biopharmaceutical company fighting drug overdoses. Stable Road Acquisition Corp., a cannabis SPAC, has also made a major pivot and signs a deal with space company Momentus.
While one or two cases are not trending, there have been concerns that given the sheer number of pending deals, the quality of SPACs could deteriorate in the future. SPACs also compete with private equity firms, many of which have yet to use a lot of dry powder.
“There might not be a deal, or there might be a deal with a company that isn’t necessarily justified as a public company,” said Sylvia Jablonski, chief investment officer at Defiance ETFs, which launched the first SPAC ETF (SPAK) in September. “If time has passed and you haven’t done one yet, chances are they are just doing a bad merger to complete it, now that all the time energy and investment has been put into them.”
SPAC shares roll over
SPAC trading, which once only seemed to be rising, may have gradually disintegrated as more SPAC-elected acquisitions flopped. The speculative areas of the market are also often hit hard when volatility rises.
“The sharp end of the wand that is the IPO area will be more painful for risk reduction than any other area of the market,” said Justin Lenarcic, Wells Fargo, senior global alternative investment strategist.
SPACs stand for special purpose vehicles that raise capital as part of an IPO and use the money to merge with a private company and get it public, usually within two years. Excited investors piled into stocks of these empty corporate shells, hoping they’d hit a home run.
Some of the high profile deals are trading more than 40% above their IPO price, including $ 4 billion Bill Ackman’s Pershing Square Tontine Holdings and two SPACs from Chamath Palihapitiya.
“Some people get a little complacent when they hear that SPACs are risk free because you have the option to redeem your interest if you don’t like the deal … but you also need to realize that this will only work if you get early invest, “said Lenarcic. “It really depends on where you invest in the life cycle of the SPAC.”
Many retail investors buy SPACs in the secondary market, which means they would most likely miss out on the early pop in common stocks as well as the benefits associated with warrants. For buy-and-hold investors who only get in after a deal is closed, they almost always lose money.
Regarding the SPAC emission, there is no evidence that it is slowing down. Funds raised in the first two months of 2021 are already competing with capital from a record year 2020 – $ 68.5 billion since the start of the year versus $ 83.4 billion last year, according to SPAC Research.
“The rapid pace of issuance is unlikely to be sustainable,” said David Kostin, head of US equity strategy at Goldman Sachs, in a note. “SPACs could generate more than $ 700 billion in acquisition activity over the next two years.”
Some new issues raise eyebrows on Wall Street. Last month a SPAC called “Just Another Acquisition Corp.” was filed with the Securities and Exchange Commission to raise $ 60 million for an unspecified sector deal. There is also “Do It Again Corp.” This week a Delaware-based SPAC that, according to a filing, could target restaurants and retail brands.
“There could be a growing element of FOMO [fear of missing out] here, “said Lenarcic.” I think you have to be careful. You need to understand that not all SPACs are created equal, certainly not all sponsors are created equal, and not all deals will work. “
– CNBC’s Gina Francolla contributed to the coverage.
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