Beyond ultra-popular broad market ETFs, investors have also started to notice that the exchange-traded fund industry has a plethora of choices in the ‘niche’ fund market as well. These options give investors an opportunity to tap the different segments of the market in basket form, utilizing strategies that are often difficult to replicate in a ‘regular’ portfolio.
While we have seen this in the stock buyback space, ETF investors should also note that there is also a spin-off ETF which has proven itself over the past few months (Best and Worst ETFs to Start the Year).
What are in spin-off ETFs?
In a spin-off, a company segregates certain assets into a separate entity and 'spins off', or distributes, shares in that entity to the current shareholders. The most typical reason for a spin-off is that the stock price of a large diversified company does not fully reflect the value of all its diverse components, so management feels that it can enhance shareholder value by spinning off certain assets into a separate entity.
Another reason may be that a parent company has built a valuable fast-growing subsidiary whose business differs from the main business of the parent company. So the management feels that it is best for the new subsidiary to function as an independent entity (Do Large Cap ETFs Signal Trouble Ahead?).
History shows that spin-off companies have most of the time turned out to be relatively good ideas as revealed by their returns and operating cash flow. To leverage the profits from spin-off ventures, investors can use ETFs, instead of investing in individual spun-off companies.
Spin-off ETF in Focus
Guggenheim Spin-Off ETF (CSD) tracks the Beacon Spin-off Index which is comprised of approximately 40 securities selected from a broad universe of U.S.-traded stocks, ADRs and MLPs. The universe of companies eligible for inclusion in the Index includes companies that have been spun off within the past 30 months but not more recently than six months prior to the applicable rebalancing date.
The index provider defines a spin-off company as any firm resulting from either of the following events: a spin-off distribution of stock of a subsidiary company by its parent company to parent company shareholders or equity “carve-outs” or “partial initial public offerings” in which a parent company sells a percentage of the equity of a subsidiary to public shareholders.
CSD is the lone ETF tracking spin-off companies, and has amassed an asset base of $1.3 billion. Despite the only option available to tap the spin-off companies, CSD seems to be less popular among investors as indicated by its trading volume of 26,300 shares a day.
The ETF provides exposure to 27 securities which are mainly small and mid-cap companies. This makes the fund even more attractive as small and mid-cap companies have more potential to grow than their large cap counterparts. The fund charges a fee of 60 basis points annually (Forget SPY, Focus on Mid and Small Cap ETFs).
CSD appears to be moderately concentrated in the top ten holdings as the percentage allocation stands at 48.67%. Among individual holdings, Fiesta Restaurant Group, Marathon Petroleum Corp and Phoenix New Media Ltd occupy the top three positions in the fund. The fund has a net expense ratio of 0.60%.
For sector allocations, the ETF has made a double-digit allocation in Energy, Industrials, and Consumer Discretionary sectors with a share of 23.86%, 22.33% and 18.77%, respectively.
The most appealing thing about this ETF has been its out performance over broad benchmarks in the long term. In the past one-year period, CSD has gained 33.9% while SPDR S&P 500 ETF (SPY) has returned just 13.78% over the same time period. In fact, CSD has returned 209.9% since the start of 2009 compared to a return of 85.2% of SPY (3 Ways to Play the S&P 500 Rally with ETFs).
In the year-to-date period, while SPY retuned 9.43%, CSD delivered a return of 17%. This suggests that the fund has a remarkable story of delivering strong returns and beating the broader market ETF since its inception.
The graph above shows the one-year performance of SPY and Guggenheim Spin-Off ETF. Clearly CSD has outperformed the market, with some truly crushing performances seen in the past few months.
One possible reason behind the out performance of spin-off companies is that they get an opportunity to unlock their value and work as a separate entity. They can focus on goals and businesses more effectively than as a part of a large organization, and thus can add more value.
Lately the spin-off strategy seems to have gained momentum in the market and CSD is the only option available to tap such companies. Although the fund appears to be a bit pricey, the returns provided by the fund have proven to be worth the extra cost.
The ETF has exhibited a very strong performance since its inception beating the broader market in most of the years. If this trend can continue is anyone’s guess though, but clearly, at least over the past few years, there has been something to this idea of ‘unlocking value’ through spin-offs.
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