With lower interest rates now in sight and renewed confidence in the stock market, deal making activity should pick up in 2024 after a slow couple of years. For retail investors, this could lead to new opportunities to invest in emerging industries and the potential to capture early returns. But it typically isn’t easy to invest in IPOs or play the M&A market. Here are ways investors can use ETFs to take advantage of the current deal-making environment.
IPOs Are Exciting for Investors
IPOs are exciting for investors. They can be a chance to invest in a trendy new product, like discount retailer Shein or Kim Kardashian’s Skims, which will both potentially go public in 2024. They can also be a chance to invest early in the next big tech company. For example, Reddit, while already an established social media platform, is now considering going public. However, IPO shares may not be easily accessible to retail investors. And those that are accessible may be difficult to research, which can add an extra layer of risk.
IPO Market Should Increase in 2024
After a surge of IPOs (including SPACs) in 2020-2021, the IPO market cooled off in 2022 and 2023. I expect IPO activity to increase in 2024 as investors regain more confidence in the market, interest rates come down, and innovation drives more high-profile tech-related companies. Potential IPOs like Shein, Skims, and Reddit may drive some of the most interest. However, I think there should be additional activity in the consumer discretionary sector and tech-oriented industries where artificial intelligence touches. Industries such as robotics, automation, autonomous vehicles. And this isn’t limited to the technology sector.
IPOs Are Generally a Good Thing for ETFs
In general, IPOs are usually a good thing for ETF investors. As emerging companies go public, they can be added to ETFs. This offers growth potential to existing ETFs and opportunities for the creation of new ETFs. A few examples would be ETFs in emerging industries like future mobility or thematic ETFs in disruptive technology.
Four ETFs focus specifically on IPOs. While these ETFs don’t purchase IPOs at initial prices, they can make the IPO market more accessible for retail investors who may not have the time and resources to research new issues. The First Trust U.S. Equity Opportunities ETF (FPX) and the Renaissance IPO ETF (IPO) both focus on U.S.-listed IPOs. While FPX is the larger of the two, IPO has outperformed recently, returning 32.8% over the past year compared to 20.1% for broader U.S. equity benchmarks. IPO invests in the largest, most liquid U.S.-listed newly public stocks with 0% overlap with the S&P 500. These stocks average 1.3 years since inception compared to 42 years for the S&P 500. While FPX has a similar methodology, its holdings cycle out every four years rather than three years. Currently, its top sector is industrials (with a 31% weight), which is only 5% of IPO’s weight. IPO has larger weights in technology and consumer discretionary stocks.
M&A Activity Should Also Ramp Up in 2024
Lower interest rates also lead to lower borrowing costs for companies looking to make acquisitions. While the equity market has been performing relatively well, there are still pockets where prices are discounted below valuations — which could also stimulate some more merger and acquisition activity.
ETFs Can Provide Exposure to Merger Arbitrage Strategies
There are a few ways to capture the M&A market through ETFs including merger arbitrage ETFs like the IQ Merger Arbitrage ETF (MNA) that seek to capture profit from spreads from these transactions. Merger arbitrage strategies may be difficult for retail investors to employ on their own. But they become easily accessible by these ETFs.
Investors can also look at specific industries. For example, biotechnology holds some of the largest disruptors within the broader healthcare sector. The ALPS Medical Breakthroughs ETF (SBIO) offers exposure to biotechnology stocks that have one or more drugs in Phase II and Phase III U.S. FDA trials. This strategy reduces the likelihood of early-stage failures in preclinical or Phase I trials. However, there’s still potential for stock price growth once the drug is officially approved. Biotechnology companies focus on research and development. Large pharmaceutical companies often acquire them and they can market and distribute the treatment. Last year, ten companies were removed from PMBI’s index due to acquisitions.
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