FORECASTS & TRENDS E-LETTER
by Gary D. Halbert
February 23, 2021

IN THIS ISSUE:

1. What Is A Special Purpose Acquisition Company (SPAC)?

2. SPAC Bubble: Field Is Getting Crowded, Quality Suffers

3. Conclusions – SPACs Not Appropriate For Most of Us

4. COVID-19 Drives a $24 Trillion Surge in Global Debt

Overview – Special Purpose Acquisition Companies

One of the most popular investment vehicles in recent years is the Special Purpose Acquisition Companies or “SPACs” as they’re commonly called. While SPACs have been around for years, they’ve increasingly become the investment model of choice for Wall Street firms and fund managers who promote them.

While I doubt many of my readers invest in SPACs, they now number in the hundreds, some of which are quite large. Given their wide popularity and aggressive promotion, I thought I would discuss SPACs today and point out their pros and cons.

It is my view that SPACs are currently in a bubble which is ripe for bursting. It is also my view that most investors should just say NO when solicited for these often highly speculative ventures. Let’s get started.

What Is A Special Purpose Acquisition Company (SPAC)?

A SPAC is a company with no commercial operations which is formed merely to raise capital through an Initial Public Offering (IPO) for the purpose of acquiring an existing company (or companies). SPACs have been around for decades, but in the last few years, they've become significantly more popular, attracting big-name underwriters (including Goldman Sachs and other Wall Street wire houses).

SPACs are generally formed by Wall Street sponsors or large investors with expertise in a particular industry or business sector, with the intention of pursuing acquisition deals in that area. In creating a SPAC, the founders sometimes have at least one acquisition target in mind beforehand, but they usually don't identify that target to avoid extensive disclosures during the IPO process.

This is why SPACs are often referred to as "blank check companies," since their investors have no idea what companies they ultimately will be investing in. SPACs seek underwriters and institutional investors before offering shares to the public.

The money SPACs raise in an IPO is placed in an interest-bearing trust account. These funds cannot be disbursed except to complete an acquisition or, if not, to return the money to investors if the SPAC is liquidated. A SPAC generally has two years to complete an acquisition deal or face liquidation. After an acquisition, a SPAC is usually listed on one of the major stock exchanges.

There are reportedly over 300 SPACs in existence, and they raised record amounts of IPO money in 2019 and 2020. According to Harvard Business Review, SPACS took in a record $83 billion in 2020. This January alone, they raised another $26 billion, putting them on pace for another new record in 2021.

SPACs reportedly lined up for 2021 include the Bill Gates-backed portable ultrasound start-up Butterfly Network (valuing the company at $1.5 billion), and the DNA-testing startup 23andMe is reportedly in talks to go public through a $4 billion IPO. There is also buzz that digital media companies like BuzzFeed, Vice Media, Bustle Media Group and various others are considering using SPACs to finally bring in money for their investors this year.

SPACs are a form of “reverse merger” where a successful private company merges with a listed empty shell company to go public, without all the paperwork and rigors of a traditional IPO. The shell is usually a remnant of a previously operational public firm or a public “virgin shell” formed specifically to combine with a private company. Where SPACs are different is simply that the shell company is a proactive party, flush with cash from the IPO, and hunting for private acquisitions.

SPAC Bubble: Field Is Getting Crowded, Quality Suffers

The most obvious sign a bubble is forming in SPACs is the frenzied growth. Amid the global stock market volatility, last year’s $83 billion haul by SPACs was six times the amount raised in 2019 and nearly equaled the figure mustered by all IPOs last year. Even David Solomon, chief executive of major SPACs underwriter Goldman Sachs, warned in January 2021 that the SPACs boom is “not sustainable in the medium term.”

Second, there is the fact that many firms taken public by SPACs have little to show in terms of formal business plans or revenues, in some cases triggering shareholder lawsuits by disgruntled investors. Meanwhile SPAC successes such as fantasy sports betting firm DraftKings and data company Clarivate Analytics are relatively few. In fact, a recent study found most SPACs’ post-merger share prices declined.

Another red flag comes in the form of negative media sentiment and regulatory concern. Reports about SPACs are often negative and cautionary. “SPACs are oven-ready deals you should leave on the shelf” warned a Financial Times headline in December. SEC Chairman Jay Clayton has signaled similar reservations. The SEC is watching SPACs closely, he said in September, in efforts to ensure SPAC shareholders “are getting the same rigorous disclosure that you get in connection with bringing an IPO to market.”

Under the rules governing them, SPACs must identify firms they can merge with within 24 months after they have raised their funds, or they will be wound-up and the IPO proceeds returned to investors. More than 300 SPACs need to pull that off this year or risk being liquidated.

But with only so many quality acquisition targets to go around, and SPAC organizers’ strong incentive to close deals in the required time allowance -- even at the expense of shareholder value -- SPACs may well end up in a negative spiral of poor quality/bad press/tighter regulation. And we know how similar problems ended for reverse mergers – not well.

Conclusions – SPACs Not Appropriate For Most of Us

I could go on discussing SPACs and how they work (or do not), but you can read more in the links below if you’re still interested. Suffice it to say, SPACs are all the rage these days, so don’t be surprised if you are solicited by one or more.

While there are certainly some successful SPACs out there, my sense is the best ones were offered several years ago, and most are no longer open to new investment. Of those currently available, I suggest you consider them very carefully before investing. And remember most (if not all) have extended lock-up periods which can be several years before you can get your money out.

Normally, I would not devote space in Forecasts &Trends to a topic such as this. However, I am seeing promotions for new SPACs all over the place, and I suspect my clients and readers will see them too. While the financial media is currently enamored with SPACs, I don’t feel they are suitable for most investors. So, my advice if you are solicited is, Just Say NO!

COVID-19 Drives a $24 Trillion Surge in Global Debt

Global debt has surged by $24 trillion in the last year, driven largely by the response to the COVID-19 pandemic, the Institute of International Finance (IIF) announced last Wednesday.

With global debt now totaling a record $281 trillion, the ratio of debt to global GDP has risen 35 points to 355%, according to the group’s calculations. The latest increase in the debt load is larger than the jump seen during the Great Recession.

Government spending accounts for about half of the increase. Corporations added $5.4 trillion to the total, while banks added $3.9 trillion and households added $2.6 trillion in the last year.

The debt bonanza is almost certain to continue. The International Monetary Fund recently cautioned: "We expect global government debt to increase by another $10 trillion this year… while warning that it could be difficult to cut back:

"Political and social pressure could limit governments’ efforts to reduce deficits and debt, jeopardizing their ability to cope with future crises. This could also constrain policy responses to mitigate the adverse impacts of climate change and natural capital loss."

The question: Is anyone listening? Sadly, it doesn’t appear so. The liberals have fully embraced so-called “Modern Monetary Theory” which claims we can print all the money we want with little or no downside.

This theory has never held water throughout history. I don’t believe it will hold this time either. It remains to be seen how much longer this can go on without a financial crisis. It’s a ticking time bomb! I will, of course, continue to revisit this topic in the weeks and months ahead.

Wishing you well,

Gary D. Halbert

SPECIAL ARTICLES

What Are SPACs, One of Wall Street’s Hottest Trends?

SPACs Explained: Fidelity Investments

Gary's Beween the Lines Blog: Latest Economic Reports Signal Strength… For Now

 

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