90 percent of everything is crap.
– (Theodore) Sturgeon’s Law
YOUGHAL, IRELAND – Even in honest times, most innovations… mutations… and new businesses fail.
And most of what is left is, as Sturgeon reminds us above, “crap.”
But the CC (Crap Coefficient) increases dramatically in a Bubble Epoch. The gravity of honest money seems to disappear. Pretty soon, people are walking on the moon.
As reported here yesterday, the Senate cleared the way for the latest $1.9 trillion “stimmy” boondoggle over the weekend. This was such a glorious moment, according to Senator Debbie Stabenow of the great state of Michigan, that it almost brought tears to her eyes.
Yes, emotions ran hot and heavy as politicians realized what a wonderful thing they had done.
But what had they done?
The U.S. government is already running a deficit of over $2 trillion. It has no money.
Yet, the Senate voted to give away an amount that was greater than the entire U.S. budget in 2003.
And to whom? For what?
Thanks to ongoing giveaways, the feds’ transfer payments are soaring, leaving the typical American household with more income than ever before.
The latest absurdity alone, including childcare tax credits, could present a family with four children – that had not suffered unemployment or income loss of any kind due to the COVID-19 lockdown – with over $20,000.
Meanwhile, Friday’s jobs report showed that most of the 379,000 new jobs created in February are in the service sector, with an average annual wage of about $22,000. The temptation to take the fast money and try to make fast profits with it must be almost irresistible.
Google reports a 10x increase in searches for “day trading” since 2019. And why not? In the white-hot sectors of the market – cryptos, Tesla, tech, and SPACs, for example – speculators see big money. “We can do better than $12 an hour,” they say to themselves.
But when the money goes, everything goes. So let’s look a little closer at where it is going.
The amount raised by SPACs (special purpose acquisition companies) has gone up 47 times since 2014. Is the SPAC a successful innovation, making IPOs easier and more efficient? Or is it another feature of La Bubble Epoch?
The special-purpose acquisition company is presumed to have expertise in a certain area. It is supposed to be like a fisherman, who knows what corner of the lake is the best for his line.
Then, it is presumed to be able to reel in a private company that wants to go public. And it is further assumed that the fish is willing to sell itself for less than it is actually worth.
SPACs may offer streamlined access to public markets, but they are far from friction-free. There are lawyers, accountants, and wheelers and dealers to pay – lots of them.
Harvard researchers found that by the time a SPAC made an acquisition, it had already dissipated 33 cents of every dollar raised (see below for all the details).
If they were required to buy things for only what they were really worth, investors would take an immediate loss.
But this is the Bubble Epoch.
In the private market, companies tend to sell for between five and 10 times real earnings. But in the public markets, earnings scarcely matter.
So if the SPAC could acquire such a company, at such a price, and “take it public,” the price should shoot up to, say, the S&P 500 average today, which is around 22 times earnings.
(The Russell 2000 – a small-cap stock market index – had a price-to-earnings (P/E) ratio of 47 a year ago. Now, so many of its companies are losing money that the P/E is negative. It has plenty of P, but no E to divide it by.)
You can do the math yourself. You start a SPAC. You raise $1 million. You spend $330,000 on operating costs. Then, you buy a company for $667,000, priced at five times earnings.
And now, thanks to the Federal Reserve’s money-printing, and the devil-may-care esprit of La Bubble Epoch, the company is suddenly worth 22 times earnings, or $2.9 million!
But it’s not that easy. Why would you sell a good business for five times earnings, knowing that it will soon be worth 22? You wouldn’t.
And now, there are hundreds of SPACs. All must make an acquisition… or they make no money. This creates a seller’s market… where prices rise to meet the demand.
And no matter who the front man is, most SPACs are run by seasoned pros – usually from the venture-capital or mergers-and-acquisitions world. They know what they are doing. They are good at it.
But the thing they are good at is only remotely connected to running a profitable company. They don’t have time for that. Or the expertise.
They’re much too busy raising money and doing deals. This is the Bubble Epoch. And earnings are almost a drag. Like a wart on a princess’s nose, they interrupt the dream flow.
Public market investors have paid 22 times earnings for a company that looked good on paper. But why did the business want to “go public” in the first place?
And now, with their pockets full of cash… what do the insiders do? That’s when the wart begins to grow.
Some realize that this will be the biggest payday of their lives… and they retire.
Others may have been looking for an exit all along (which is why they went public).
And some move on… starting up another business and hoping for an even bigger score.
Which might make you wonder how these deals turn out.
Renaissance Capital took a look at the end of 2020. Its key takeaway:
Of the 313 SPACs IPOs since the start of 2015, 93 have completed mergers and taken a company public. Of these, the common shares have delivered an average loss of -9.6% and a median return of -29.1%, compared to the average aftermarket return of 47.1% for traditional IPOs since 2015.
Harvard Law Review also took a look at SPACs. Here is what it said:
Although SPACs issue shares for roughly $10 and value their shares at $10 when they merge, by the time of the merger the median SPAC holds cash of just $6.67 per share.
The dilution embedded in SPACs constitutes a cost roughly twice as high as the cost generally attributed to SPACs, even by SPAC skeptics.
When commentators say SPACs are a cheap way to go public, they are right, but only because SPAC investors are bearing the cost, which is an unsustainable situation.
Although some SPACs with high-quality sponsors do better than others, SPAC investors that hold shares at the time of a SPAC’s merger see post-merger share prices drop on average by a third or more.
Like everyone else in La Bubble Epoch, SPACmen want big gains – fast. They know – or at least, they feel in their bones – that the bubble is going to pop. So they want to get out of town, with their loot intact, before the pin arrives.
Ooops! Chris Bryant, writing for Bloomberg Opinion, says the SPAC party may already be over.
Hedge funds have begun shorting SPACS, he says. SPAC IPOs are no longer hugely over-subscribed. And last week, the IPOX SPAC index – launched last September – fell into bear territory.
More on La Bubble Epoch tomorrow…
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