DXYZ's Fluctuations Highlight ETFs' Steadiness

We’ve heard of initial public offerings flying high once they hit the market—priced to pop, newly public companies have closed their first day of trading with astronomical valuations.

Even stranger is when a closed-end fund gets the IPO “treatment,” and it doesn’t let up after a few weeks. That is the recent tale of Destiny Tech100 Inc., symbol DXYZ, which is on the way to building a portfolio of 100 high-quality private companies, including a large position in Elon Musk’s SpaceX, and stakes in Open AI, Instacart and other private equity stars.

But the initial weeks have apparently attracted a huge trader crowd, creating a meme stock-like situation, with DXYZ's price gyrating in ways that private company valuations do not. For the ETF industry, and financial advisors who might soon be fielding questions about “that DXYZ stock” from their clients, there may never be a better opportunity to point out the structural advantages of ETFs. 

Closed End funds and open-end mutual funds have essentially been replaced in large part by ETFs. That has more to do with simple structural differences between ETFs and types of pooled investment vehicles that existed before the first ETFs, starting with the SPDR S&P 500 Trust (SPY), came to market in the US in 1993. 

ETFs Versus Closed-End Funds 

A closed-end fund has a fixed number of shares. That means the value of the underlying fund portfolio, while typically known to investors, might not equal the value that the market puts on that fund. So, the actual closed-end fund can trade at a premium or discount to the actual “net asset value” of the portfolio.

But what happens when the underlying portfolio is a partially invested collection of private companies that don't trade on public stock exchanges? I think we just saw what happened: mayhem! From an initial price of under $10, DXYZ traded all the way up to $100, and has gyrated 20-30% in a day as a regular occurrence. Talk about price discovery! 

Apparently, the market hasn't determined how to price a “unicorn” like DXYZ. That’s why ETFs that lean in to own private equity, albeit indirectly, suddenly look like calm, mature investment vehicles by comparison. 

Private Equity ETFs Offer an Alternative 

The $240 million Invesco Global Listed Private Equity ETF (PSP) invests in companies in the business of private equity. Top holdings include PE heavyweights KKR & Co, Carlyle Group and Blackstone. PSP allocates to business development companies, alternative asset managers and master limited partnerships. These funds literally represent “liquid alternatives” that are a popular topic with advisors.

When PSP first ventured into this space way back in 2006, the retail investor presence in the stock market was not what it is today. So perhaps DXYZ, in addition to investing directly in the private companies, entered the market during a “risk-on” cycle which helped it fly out of the starting gate. But there is something to be said for investing with “the house,” the companies that do the due diligence to uncover the equity market giants of tomorrow? PSP pays a 4.6% dividend yield to boot.

The ProShares Global Listed Private Equity (PEX) has attracted less than $10 million in assets in more than 11 years in business. This global ETF holds about 30 stocks. Comparing ETFs like this and PSP to SPY is not the best peer approach, since private equity and established public blue-chip firms are very different. A better peer group My be a small cap index such as the Russell 2000, and over the past three years, PEX has produced a total return of 6.5%, 10.5% better than the Russell 2000 index.

The Whitewolf Publicly Listed Private Equity ETF (LBO) is only in its fifth month of existence, which explains in part why it’s assets are only around the $2 million mark. This all-cap ETF’s 25-40 holdings focus on “leverage finance providers” and buyout firms, such as finance companies, direct lenders, and venture capital businesses. Banks and REITs are excluded. This is more of an income ETF, with a value approach.

DXYZ is the new kid on the private equity block, but for investors looking to invest in the “food chain” of bringing private companies through pre-public company phases of the process, ETFs have ways to pursue that. Maybe private equity investing in a more direct form will be a big winner. But that assumes the stock market remains friendly to emerging companies not yet in the public markets. That is far from certain, as past generations of the stock market have shown.