Initial Public Offering
as the Lifeblood of
In the popular image, an IPO refers to the sale of equity to the general public upon the initial launch of a bantam venture on a stock exchange. In the financial community, however, the terminology is also used to denote any type of fresh listing on the bourse.
An example of the latter is a stricken firm whose equity was delisted in the throes of bankruptcy proceedings. If an overhaul of the struggling firm turns out to be successful, then the return of the outfit to the equity market is regarded as the IPO of a reborn stock.
From a different angle, an exchange traded fund is a handy way to participate in diverse markets ranging from equities and bonds to commodities and currencies. In terms of scope, an ETF may cover a broad swath such as a whole industry or even the entire economy. An example of the latter is an index fund based on the flagship benchmark of the stock market; namely, the Standard & Poor’s index of 500 giants on the bourse.
From the converse stance, a communal pool could focus on a compact niche. Examples in this vein range from computer hardware and real estate to precious metals and foreign currencies.
Whatever the choice of market, though, an initial public offering can perk up the return on a portfolio. Since the autumn of the 20th century, a raft of studies have shown that an IPO is apt to outpace the bourse as a whole during the couple of years of its debut.
On the downside, though, the basic equities of operating companies are in general inapt as the primary vehicles for investment by the mass of participants in the stock market. The reason lies in the endless hail of sideswipes and smashups in every industry ranging from mining and shipping to software and banking. The bugbear stems from a fact of life which is ignored by the simplistic models of orthodox finance. In the real world, companies of all stripes break down and go bust all of a sudden, or fade out and die off in slow motion.
By contrast, an index fund is much more likely to lead a long and productive life. The longevity of the vehicle springs from the continual process of renewal as the aging champs within the underlying index are replaced by rising stars in the marketplace. Given this background, the best course of action for the mass of investors is to funnel most or all of their savings into communal pools based on market benchmarks.
On the downside, though, a market index is wont to track the established firms within its field of interest. For this reason, the corresponding pool will contain little or nothing in the way of fledgling ventures.
As we noted earlier, newborn stocks tend to outpace their older peers; and likewise outrun the bourse as a whole. In that case, the canny investor can ratchet up the return on investment by fleshing out a primary position in an ETF in any domain with a secondary stake in one or more budding stocks within the same niche.
An alternative ploy is invest in an index fund that consists entirely of new-sprung stocks. A pioneer on this front lies in a tracking vehicle called the First Trust US IPO Index Fund; the ETF trades under the ticker symbol of FPX. Another spearhead is found in the Guggenheim Spin-Off Fund, which goes by the call sign of CSD.
To place the performance of the vanguards in context, the index funds can be matched against a couple of renowned benchmarks of the stock market. In the larger scheme of things, the Standard & Poor’s index of 500 heavyweights stands out as the leading proxy for the bourse as a whole. Meanwhile the S&P 400 Midcap Index is arguably the standard bearer within the vale of midsize stocks.
Each of the foregoing yardsticks has spawned an index fund of its own. The offsprings carry the ticker symbols of SPY and MDY respectively.
During a window of evaluation stretching from 2006 to 2013, the index funds based on infant stocks – namely, FPX and CSD – beat the prime benchmarks of the stock market by a hefty margin. For instance, CSD trumped MDY by a solid lead despite a modicum of turbulence along the way. Moreover, the overall gain for the live wire was more than twice the payoff of 37% for SPY.
The story was similar for FPX only better. On a negative note, the dynamo was a tad more volatile than SPY as well as MDY. On the upside, though, the cumulative gain for FPX over the entire stretch was about 29% higher than the copious bounty bagged by CSD.
NOTE: The full briefing is a document in PDF form. The report, titled “IPO as a Growth Mode for an Exchange Traded Fund”, may be downloaded from the Library at MintKit Core.