One of the major themes of the market over the past six months has been the popularity and abundance of SPACs -- special purpose acquisition companies. There are currently more than 275 SPACs that are actively traded, and the list is growing every day.
Many of these SPACs will never find good deals and will eventually liquidate or end up stuck with a poor-quality acquisition. In addition, many market pundits call the situation a bubble that is sure to end badly. However, there already have been some highly successful SPACs, and there will be some big winners in the months and years ahead. Our job is to find the winners in the flood of new filings.
One of the things that makes SPACs special is that if you invest in one and it doesn't find a deal, then you will be able to recoup a certain minimum amount of cash, which is typically $10. The sponsors of the SPAC are obligated to return those funds, minus some miscellaneous expenses, to investors. So if you buy a SPAC at $11 and there is no deal, then you would only risk $1 or 10%.
Since many SPACs have potentially huge upside, this creates an asymmetrical risk pattern. At $11, in the previous example, there is 10% downside and, depending on the SPAC, much greater potential upside.
Some sophisticated investors are using game theory to structure trades using this key characteristic of SPACs. The trade is to buy a large basket of SPACs that have not yet announced a deal and are not trading far about the $10 redemption level. The investor would hold dozens of these stocks and only need a few of them to hit big to produce a good return. Even if a dozen names do nothing and are liquidated, the losses will be more than offset by a couple of them that double or more.
This game is being widely played right now and is part of the reason it is so easy for new SPACs to keep raising money.
I'm starting a position today with a new SPAC that just started trading Wednesday morning. Soaring Eagle Acquisition Corp. (SRNGU) just completed a $1.5 billion IPO and is currently trading just under $11. In addition to the shares, one "unit" of SRNGU has a warrant attached which will allow the purchase of an additional 0.2 SRNGU shares for $11.50.
The design of this deal is typical, but there are a couple of major differences that make it compelling to me.
First and foremost, SRNGU is sponsored by the most successful group so far in the SPAC industry. Harry Sloan, Jeff Sagansky, and Eli Baker sponsored both the DraftKings (DKNG) and Skillz (SKLZ) deals that have been highly successful. All six of their SPACs have cut deals to take companies public. This team obviously knows what it is doing and has extensive connections necessary to find a great company to take public.
This is also the second largest SPAC after the Ackman Pershing Square Tontine (PSTH) , which is currently trading up about 50% from its redemption price of $20, although it has no deal yet. Chamath Palihapitiya's Social Capital Hedosophia Holdings Corp. VI (IPOF) SPAC is also over $1 billion and trading 50% above NAV.
This situation offers substantial potential upside with a limited risk of just 10%. Given the track record of the sponsors, there is a very good likelihood that some substantial funds will park some cash in this situation and essentially take a call option while they wait to see what happens.
I don't believe the market is valuing these situations very well, and that is why game theory is being used to take advantage of the mispricing. There is some opportunity cost risk here as it could take many months for a deal to be found, but I suspect that there will be some rumors here fairly fast of a potential deal.