An ETF to Invest in Spin-Offs

02/12/2014 9:00 am EST

Focus: STOCKS

A study of 85 spin-offs between 2000 and 2005 found that they beat the S&P 500 by as much as 45% in their first two years as independent companies, explains Michael Robinson in Money Morning.

Academics have come to similar conclusions. Two professors at Penn State University examined 30 years of market data, covering 174 spin-offs. Their study revealed that, in the first three years of operations, these new companies showed price appreciations of 76%, beating the S&P 500 (SPX) by 31%.

The Guggenheim Spin-Off ETF (CSD) specializes in just these kinds of deals. The ETF invests in technology, as well as a broad array of sectors, such as energy, restaurants, and entertainment.

But it includes three spin-off firms in particular that will help this ETF outperform the overall market's returns.

Exelis (XLS) is a leader in military technology, covering everything from surveillance to communications to advanced materials. The company became a stand-alone unit back in January 2011, when it was also spun-off from ITT Corp.

And the spin-offs from the old ITT unit aren't quite done yet. Exelis, itself, plans to spin-off part of its Information and Technical Services segment into an independent unit by the summer of this year in a tax-free transaction.

CSD is also tapping into the biotech boom. Another firm that it holds, and we like, is Prothena Corporation PLC (PRTA), a clinical-stage biotechnology firm focused on Parkinson's disease and other neurodegenerative disorders.

In December, Prothena signed a deal with drug giant Roche Holding AG (RHHBY) to develop and commercialize Parkinson's treatments that could be worth up to $600 million.

But Prothena has followed a circuitous route to achieve its current success. Elan Corporation acquired the forerunner of the firm back in 1996.

Elan went through a demerger of its discovery and early development efforts in December 2012, and Prothena was born. Since the shares began trading at that time, they are up more than 270%.

CSD also holds shares in a stock that has prospered after being spun-off from troubled Tyco—The ADT Corp. (ADT), which is best known as a leading home security firm.

But in reality, it offers much more than that. Its advanced sensor technology also is making ADT's home automation an integral part of the company's services that play off the mobile revolution.

At the same time, ADT does show the risks inherent in newly-traded firms. When the firm missed guidance for its fiscal 2014 first quarter, the stock sold off, losing more than 20% over five sessions.

That's one of the reasons why we think average investors ought to consider CSD as a great proxy for the whole spin-off space.

The ETF itself is up some 79% over the past two years. That's more than double the S&P 500's (SPX) roughly 36% return over the period. Not bad for an investment vehicle that costs just $43 a share.

CSD is an ETF that has winner written all over it. It provides a profitable combination of recent spin-offs, broad economic exposure, and access to some great tech stocks.

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