A month ago, I shared my thesis about Post-IPO, pre-merger SPACs. At the time, the average SPAC traded at $10.50, the cheapest one in my portfolio was $10.30, and the four SPACs I owned that announced deals each popped from 10-24% on their announcement.
What a difference a month makes. The entire SPAC sector deflated over the last six weeks. Every SPAC in my portfolio now trades from $9.70-$10.20 (the most expensive today is cheaper than the least was a short time ago), and SPACs are no longer popping on deal announcements. Across the ecosystem, the risk-reward proposition needs revision:
1) SPAC sponsors. No change. Still an outrageously good risk-reward. They can lose all their money or make 8-10x if they consummate a deal.
2) IPO investors. Put on the brakes. A month ago, IPO investors had insatiable demand. They could buy a unit for $10 that traded for $10.50+ in the aftermarket, split the unit seven weeks later, sell the shares for a profit, and keep the warrant for free. Plenty of upside, no downside. The incentives were in place for easy money to flow to IPO sponsors. That is no longer the case. At these prices, the IPO window will shut. Why buy a unit of a new SPAC for $10 if it trades at $9.80 the next day?
3) Post-IPO, pre-merger investors. Different outlook. We now have $10 of cash in a Trust trading around $10. That’s better than paying $10.50 for $10, but the optionality of an IPO pop on a deal announcement is gone for the time being. The seemingly attractive arbitrage fell away, and deleveraging is hitting these stocks.
4) Post-merger investors. No change. Historically, the long-term returns of de-SPAC companies underperform the market. That is not surprising given the strong incentives for sponsors to do a deal. Buyer beware! It’s fascinating to watch the activity. So far, the majority (60%) of consummated deals since Jan 2019 are in the technology and healthcare sectors (ref: Michael Cembalest, JPM). Sponsors own a call option, and these volatile sectors make that option more valuable. But completing a deal may get a lot tougher. Shareholders won’t approve deals that deliver less than their $10 held in trust, so a soft market lowers the probability of success for sponsors. Next week I’ll share how I’m addressing the change in the market. Hint: follow the optionality.
