Spinning Profits from Spin-Offs

07/31/2013 9:00 am EST


Nicholas Vardy

Editor, Oxford Wealth Accelerator

This Spin-off ETF mimics the Beacon Spin-off Index, which tracks companies spun off from a parent company within the past 30 months; the ETF has trounced the S&P 500 since its inception in May 2006, observes Nicholas Vardy in the Alpha Investor Letter.

A spin-off can be the distribution of stock of a subsidiary company by its parent-to-parent company's shareholders. It can be also an equity carve-out, or partial initial public offering in which a parent company sells a percentage of the equity of a subsidiary to public shareholders.

The objective of a spin-off is to unlock hidden value. Indeed, research confirms that spin-offs generally outperform their parents and are profitable, both in terms of operating cash flow, and outside investor returns.

The performance of the Guggenheim Spin-Off ETF (CSD) may also be boosted by another unrelated, but equally powerful, concept—the small-cap effect.

Spin-offs tend to be smaller, more focused companies, rather than large, diversified ones. That also means spin-offs fall into small- and mid-cap territory.

In fact, CSD has no market cap limitations and it can—and does—invest in micro-caps. All this gives CSD an extra kick in market environments where small stocks are in favor.

That said, a spin-off is no guarantee of a home run. Fortunately, CSD has an excellent long-term track record of picking winners and of outperforming the S&P 500. And it has achieved this by running a concentrated portfolio.

Three years ago, CSD had 40 holdings. Today, that number is just 27, and the average market cap of each holding is just $5.9 million.

CSD is highly concentrated, as the percentage of its funds allocated to its top ten holdings, stands at 54.48%. CSD charges 0.6% per year and has a beta of 0.96, making it slightly less volatile than the S&P 500.

CSD rules the roost, in terms of ETFs focused on spin-offs, as the lone ETF tracking this strategy. Yet, despite its monopoly on this strategy and remarkable outperformance, CSD is not well known, and it has managed to attract only $202.7 million in assets.

CSD has outperformed the broader US stock market significantly, with a 37.95% return over the past 12 months and 26.32% return year-to-date.

That compares with gains of 19.18% and 14.47%, respectively, for the benchmark S&P 500. So, buy The Guggenheim Spin-Off ETF at market and place your initial stop at $33.

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