Investment Red Flag Watch: Why we’re worried about the return of ‘SPAC’
We keep a folder of ‘red-flag market indicators’ – developments that make us very uneasy indeed – and one of them is the return of the so-called ‘special purpose acquisition company’
The recent turbulent nature of world markets has inevitably led to speculation as to whether this could be the ‘beginning of the end’ of the good run share and bond investors have largely enjoyed in the decade or so since the global financial crisis.
Many commentators have, however, argued this bull market has further to go as we have yet really to see the ‘irrational exuberance’ leg where investors are willing to pay crazy prices for assets.
You may have your own thoughts on the merits or otherwise of this argument although, here on The Value Perspective, we strive to stay clear of any debate about market strengths and weaknesses.
Being value investors we instead look to valuation to be our guide as to whether we should be buying and selling individual business. That said, when it comes to ‘irrational exuberance’, crazy may be very much in the eye of the beholder.
Here on The Value Perspective, we keep a folder of what we might politely call ‘red-flag market indicators’ – essentially news stories and other developments that make us very uneasy indeed – and it has seen quite a growth spurt in the last few years.
Take, for example, how at the start of 2017 the yield offered by European high-yield bonds dropped below that of the dividend yield of the broader share market.
Think about that for a moment – investors were effectively saying they were happier buying into the bonds of the riskiest companies in Europe than mainstream equities.
Taken in isolation, that might well fit that tag of ‘irrational exuberance’ and yet, the more we add such examples to our folder, the more investors as a group become increasingly relaxed about them – and the next piece of incremental craziness does not seem so bad.
As you might imagine, investors’ reaction to bitcoin and all things blockchain-related have made multiple appearances in our folder over the last couple of years.
Indeed, as we have indicated in articles such as ‘The Bitcoin Perspective’, the parallels that can be drawn between bitcoin and the dotcom boom at the turn of this century are enough to make the hairs stand up on the back of your neck.
A similar – if less aggressive or commented upon – ‘red-flag’ development has been the reappearance of an old bull-market favourite known as the special purpose acquisition company or ‘SPAC’ for short.
Put simply, this is a private equity portfolio where the managers are given a lot of money by investors – and an equal amount of licence about what they do with it.
As this Financial Times piece ’Charts that matter article’ noted at the end of last year: “Following years of subdued activity after the financial crisis, these lucky-dip deals are back in a big way as markets register new highs. This year  will see investors hand over more than $10bn [£7.1bn] to newly minted companies that only have a vague idea of what they will do with the money, according to SPAC Analytics, a research company.”
That is up some 180% on the 2016 figure and not far short of the record $12bn haul of 2007.
What is more, if you were minded to add to that chart the performance of equity markets over the same period, you would see an interesting – and not particularly reassuring – relationship between the two.
We are not in the habit of making predictions, here on The Value Perspective – and yet it would not be a total surprise if we were to revisit our folder at various points over the coming months as we maintain our ‘Red Flag Watch’ on whether investors are proving ever more willing to pay crazy prices for assets.
Fund Manager, Equity Value
I joined Schroders in 2001, initially working as part of the Pan European research team providing insight and analysis on a broad range of sectors from Transport and Aerospace to Mining and Chemicals. In 2006, Kevin Murphy and I took over management of a fund that seeks to identify and exploit deeply out of favour investment opportunities. In 2010, Kevin and I also took over management of the team's flagship UK value fund seeking to offer income and capital growth.
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