It Ain’t Over Till It’s Over
Okay, I didn’t coin the phrase for this piece’s title—that was NY Yankee great Yogi Berra who came...
Few asset classes benefit from a hawkish Fed. Rising interest rates usually hurt most traditional stock and bond valuations. Given the Fed’s intent in raising short-term rates is to slow the economy, more often than not a Fed rate hike cycle has usually ended in an economic recession. Even if the tightening cycle doesn’t end in recession, a slowing economy typically puts further downward pressure on stock valuations and upward pressure on credit spreads. Treasury Bills and Treasury Money Market Funds are among the few, if not only, assets that benefit from rising short-term rates without other consequences. Floating rate debt, commercial paper, and syndicated bank loans will see their yields rise, but they will also face increased default risk as the economy slows.
We have often characterized our pre-merger SPAC strategy as T-Bills+Plus. We typically spend a lot of time discussing the Plus part of the strategy—the discount to trust value that we are able to buy pre-merger SPACs. But up to now we haven’t spent much time discussing the T-Bill portion of the strategy, largely because until a few months ago T-Bill yields were near zero percent.
Much has changed in the last few months. The Fed started a rate hike cycle three months ago to combat the highest inflation rates we have seen in four decades. It started with a whimper—a 25 basis point hike in March; that was followed with a more noteworthy 50 basis point hike in May; and, now they are getting serious about their inflation-fighting mandate with a 75 basis point hike in June, to likely be followed by another 75 basis point hike in late-July. In fact, the Fed’s own “dot plots” anticipate short-term rates ending the year at close to 3.50%--we started the year with short-term rates near zero.
Pre-merger SPACs are required by prospectus to place the proceeds of their initial public offering sale into a trust, and the trust must be invested in T-Bills and/or Treasury Money Market Funds. Prior to three months ago, no one cared all that much about the interest income generated in the trusts, because the income was insignificant given short-term rates had been pegged near zero percent for the previous two years. Now that the Fed is pursuing a particularly hawkish rate hike path, that income potential is becoming more and more meaningful. As noted above, T-Bills and Treasury Money Market Funds are the rare assets that actually benefit from a hawkish Fed. The 1-year T-Bill is currently yielding 2.80%--that’s a pretty good gauge of what the average yield will be for a Treasury Money Market Fund over the next 12 months. That greatly improves the already attractive math behind our pre-merger SPAC strategy.
The Plus remains intriguing as the entire pre-merger SPAC universe is trading at a 3% annualized discount to trust value . We would characterize the vast majority of that discount as irrational, similar to the unexplained reasons for closed-end fund discounts persisting. The big difference between pre-merger SPACs and most closed-end funds is that pre-merger SPACs have a redemption date, whereas other than term trusts, most closed-end funds do not have a redemption date. In other words, we know with certainty that the pre-merger SPAC discount will go away between now and redemption date; and, in most cases there is less than a year to wait until redemption date.
When we combine the forward expectation for T-Bill returns with the annualized discount we are able to purchase pre-merger SPACs, the math becomes extremely compelling. Both sides of our T-Bills+Plus are now contributing almost equally to the strategy’s expected yield-to-worst , with T-Bills expected to return 2.80% over the next 12-months and the discounts to current trust value remaining at 3% annualized. That’s a combined yield-to-worst of 5.80% with the credit and interest rate risk of T-Bills. Barclays Capital U.S. 1-3 Year Government/Credit Bond Index, our fund’s primary benchmark, currently has a yield-to-worst of 3.4%, a duration of 1.9 years, and an average credit quality of AA. The pre-merger SPAC strategy’s worst case expected return of 5.8% over the next 12 months, means that 1-3 year bond yields would need to decline 1.25% over the next 12 months in order for the benchmark index to achieve a 5.80% return. With CPI over 8%, and the Fed’s own “dot plots” anticipating raising rates another 2.25% over the next year, we think that might be a tall order.
EXPLORE SPAX at www.robinsonetfs.com
ABOUT ROBINSON CAPITAL
Founded in December 2012, Robinson Capital Management, LLC, is an independent investment advisor specialized in developing traditional and alternative fixed income solutions. Robinson’s investment approach employs both fundamental and value techniques to best identify positive risk/reward opportunities and to maintain a consistent and disciplined approach. Robinson Capital also specializes in alternative value investing strategies, particularly through special purposes acquisition companies (SPACs) and closed-end mutual funds (taxable and tax-exempt).
Robinson Capital provides customized investment management services for RIAs, family offices, broker-dealers and institutions.
The firm serves as investment sub-adviser to the Robinson Alternative Yield Pre-Merger SPAC ETF (ticker: SPAX). For more information, visit, robinsonetfs.com.
Investors should consider the investment objectives, risks, charges and expenses carefully before investing. For a prospectus or summary prospectus with this and other information about the Fund, click here. Read the prospectus or summary prospectus carefully before investing.
Investing involves risk. Principal loss is possible. ETFs may trade at a premium or discount to their net asset value. Brokerage commissions are charged on each trade which may reduce returns.
The Fund invests in equity securities and warrants of SPACs, which raise assets to seek potential business combination opportunities. Unless and until a business combination is completed, a SPAC generally invests its assets in U.S. government securities, money market securities, and cash. Because SPACs have no operating history or ongoing business other than seeking a business combination, the value of their securities is particularly dependent on the ability of the entity’s management to identify and complete a profitable business combination. There is no guarantee that the SPACs in which the Fund invests will complete a business combination or will be profitable.
Some SPACs may pursue a business combination only within certain industries or regions, which may increase the volatility of their prices. To the extent a SPAC or the fund is invested in cash or cash equivalents, this may impact the ability of the Fund to meet its investment objective. Investments in a SPAC may be considered illiquid and subject to restrictions on resale.
The Fund may purchase warrants to purchase equity securities. Investments in warrants are pure speculation in that they have no voting rights and pay no dividends. They do not represent ownership of the securities, but only the right to buy them. Warrants involve the risk that the Fund could lose the purchase value of the warrant if the warrant is not exercised or sold prior to its expiration. The Fund may also purchase securities of companies that are offered in an IPO. The risk exists that the market value of IPO shares will fluctuate considerably due to factors such as the absence of a prior public market, unseasoned trading, a small number of shares available for trading and limited information about the issuer. Such investments could have a magnified impact on the Fund.
Some sectors of the economy and individual issuers have experienced particularly large losses due to economic trends, adverse market movements and global health crises. This may adversely affect the value and liquidity of the Fund’s investments especially since the fund is non-diversified, meaning it may invest a greater percentage of its assets in the securities of a particular, industry or sector than if it was a diversified fund. As a result, a decline in the value of an investment could cause the Fund’s overall value to decline to a great degree.
The Fund is a recently organized management investment company with limited operating history and track record for prospective investors to base their investment decision.
The Fund is distributed by Foreside Fund Services, LLC.
Jim Robinson is the founder of Robinson Capital Management, LLC and serves as Chief Executive Officer and Chief Investment Officer. Jim is a veteran investment manager and bond trader with more than three decades of experience. Jim holds an MBA from Carnegie Mellon University, as well as a BBS in Finance and Economics from Wayne State University.
The intent of every Fed rate hike cycle is to slow the economy. Whether the cycle is driven by a...