Boosting an ETF with an IPO

How an Initial Public Offering
Can Fortify an Exchange Traded Fund

A dandy way to excel in the stock market is to beef up an exchange traded fund (ETF) with an initial public offering (IPO). By this means, the efficiency and longevity of an ETF can be bolstered by the peppy performance of an IPO.

For the bulk of investors, an exchange traded fund is the best vehicle for participating in motley markets ranging from equities and bonds to currencies and commodities. In terms of scope, an ETF may cover a broad swath such as an entire industry or the global economy at large. A case in point is an index fund based on the flagship benchmark of the stock market; namely, the Standard & Poor’s index of 500 stalwarts on the bourse.

Looking in the opposite direction, a communal pool could focus on a compact niche. Examples of this stripe run the gamut from computer hardware and real estate to foreign currencies and precious metals.

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 wont to outpace the bourse as a whole during the first year or two of its debut.

On the downside, though, the basic equities of operating companies are in general inapt as the main vehicles for investment by the bulk of players. The danger lies in the vulnerability to bombshells in every industry ranging from mining and shipping to software and banking. The menace springs from a fact of life which is ignored by the simplistic models of financial economics. In the real world, companies of all stripes trip up 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 vessel springs from the ceaseless process of renewal as the flagging members of the pantheon are replacing by the rising stars in the marketplace. For this reason, the best course for the prudent investor is to funnel most or all of their savings into communal pools based on market benchmarks.

On a negative note, a market index is wont to track the established firms within a particular domain. In that case, the corresponding fund will contain little or nothing in the way of newborn ventures.

On the upside, though, the fresh-faced stocks tend to outpace their older peers; and likewise outrun the bourse as a whole. For this reason, a canny investor can perk up the return on investment by fleshing out a primary position in an ETF with a secondary stake in one or more fledgling stocks within the same niche.

For the sake of concreteness, we examine these ideas by way of an ETF in the energy sector along with examples of IPOs in the target domain. The case study involves an index fund for a master limited partnership (MLP), a type of vehicle which is highly suited for the sober investor bent on sound returns at low risk. In this corner of the stock market, the standard bearer lies in an exchange traded fund that trades under the ticker symbol of AMLP.

Read more on Boosting an ETF with an IPO.

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