How Correlated is the SPAC Asset Class to Other Equities?
While IPOs have been running at a higher than average pace this year, Special Purpose Acquisition Companies (SPAC) have been outpacing the more traditional offerings. As with most investment classes, some have grouped all SPACs together and demonized the entire market, while others have hailed them as the new asset that everyone should have as part of their portfolio.
Not unlike all holdings, the truth as to whether any SPAC “belongs” in your portfolio comes down to the portfolio purpose, amount allocated, and risk-return measurements.
Allocation
The CFA Institute Blog “Enterprising Investor” recently posted research of a study related to allocation. They wanted to measure SPAC holding diversification benefits. Guiding the research was the question, “…are these benefits real or illusory?” To find out they conducted an analysis of all SPACs that have listed since November 2020 and used the CNBC SPAC 50 as representative of a SPAC portfolio. The CNBC SPAC 50 chosen for the pre-acquisition phase proxy, tracks U.S.-based pre-merger deals by market cap. They used statistics from the CNBC post-deal SPAC 50 which is comprised of SPACs that have found a target and gone public.
Have SPACs Benefitted Portfolios?
How have SPACs fared pre and post-deal and against the Russell 2000, S&P 500, the Dow Jones Industrial Average, the NASDAQ Composite, and the tech stocks (ETF XLK)? From November 30, 2020 to April 1, 2021, the Pre-deal SPACs underperformed the post-deal measure by 12.15% to 17.61%, about 5 percent.
SPACs vs. The Major Indexes, 30 Nov.
2020 to 1 April 2021
|
Return
|
Volatility
|
|
SPAC 50 Pre-Deal
|
12.15%
|
26.52%
|
|
SPAC 50 Post-Deal
|
17.61%
|
44.31%
|
|
S&P 500
|
11.00%
|
14.30%
|
|
Dow
|
11.86%
|
12.33%
|
|
NASDAQ
|
10.50%
|
21.50%
|
|
Russell 2000
|
23.85%
|
25.16%
|
|
XLK
|
10.21%
|
22.13%
|
Volatility
Both SPAC portfolios endured higher volatility than all the indexes they were measured against. Among the returns of the indivividual post-deal SPACs, the returns are as wide-spread as you’d find in any market. In the lower quartile of performance, the SPACs averaged negative 30%, while the top quartile averaged a high 81%.
Diversification
Correlation, or lack thereof, is what makes a good diversifier in a portfolio. You don’t want it to be fully correlated either directly or inversely. Pre-deal SPACs average a correlation coefficient of 0.43 with the major stock indexes. Once merged and public, the correlation coefficient rises to 0.53, a little more than half of 1:1. This suggests that SPACs may offer some diversification benefits in the pre-deal phase; the SPAC benefits erode by about 20% once a deal is fully executed. At this point those looking after the portfolio may wish to consider it as a regular equity holding for diversification purposes.
Some indexes were more correlated than others. Pre-deal, SPACs were most correlated with the NASDAQ Composite, with a correlation coefficient of 0.50. Post-deal SPACs tended to follow the Russell 2000 with a correlation coefficient of 0.66.
SPAC 50: Pre-Deal Correlation
|
S&P 500
|
0.44
|
|
Dow
|
0.33
|
|
NASDAQ
|
0.50
|
|
Russell 2000
|
0.45
|
|
XLK
|
0.43
|
The SPAC 50: Post-Deal Correlation
|
S&P 500
|
0.49
|
|
Dow
|
0.37
|
|
NASDAQ
|
0.61
|
|
Russell 2000
|
0.66
|
|
XLK
|
0.52
|
These correlation coefficients are considered high across the board. They certainly are not the diversifier found between equities and bonds during the same period. The SPAC 50 Index had a 0.068 correlation with the Vanguard Total Bond Index, compared to the 0.112 correlation the S&P 500 had with the bond index.
While SPACs constitute an asset class which has less correlation than say the indexes against one another, the period measured suggests there is a mid-level degree of correlation during the pre-SPAC phase that is largely removed post-SPAC. In the post deal phase, the SPACs are closer to full fledged operating companies than ever. It would make sense that a portfolio manager should, if looking to keep a SPAC allocation look for the next pre-merger deal in order to keep the percentage at their target.
Suggested Reading:
Sources:
https://www.investopedia.com/managing-wealth/achieve-optimal-asset-allocation/
https://www.sifma.org/wp-content/uploads/2021/03/SIFMA-Insights-Spotlight-SPACs-vs-IPOs-FOR-WEB.pdf
https://blogs.cfainstitute.org/investor/2021/04/26/spacs-an-uncorrelated-asset-class/
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