The IPO Market Is Back: 2 ETFs to Trade It

After nearly 18 months of inactivity, the initial public offering market is roaring back to life.  

Just last week, several small IPOs hit the wire: Vesta Real Estate, which builds out industrial properties in Mexico; Kodiak Gas Services, a natural gas player; and niche insurer Fidelis.  

But it was the success of two bigger firms in particular—Korean BBQ outfit Gen Restaurant—that has investment bankers dusting off the playbooks and salivating at the opportunity. It opened on June 28. 

Two ETFs, the Renaissance IPO ETF (IPO) and the First Trust U.S. Equity Opportunities ETF (FPX), offer investors a great way to lean into this reopening.  

They solve many of the difficulties of investing in initial public offerings and certainly offer outsized returns in risk-on markets; for instance, from March 2020 to February 2021, IPO tripled in value, and FPX more than doubled.   

Fund Construction 

With a 0.60% expense ratio and $160 million in assets under management, the Renaissance IPO ETF is a passive fund that employs a broad portfolio approach.  

It tracks an index designed to capture approximately 80% of the total market cap of companies that have gone public in the past three years. Holdings are weighted by their free-float-adjusted market cap, and individual positions are capped at 10%. The index is rebalanced quarterly, and firms that have been public for more than three years are culled, with new ones taking their place.   

FPX is less of an IPO pure-play, and works with a wider aperture: In addition to public offerings, it invests in spinoffs and equity carve-outs. This passive fund tracks the IPOX 100 U.S. Index. Those 100 U.S. companies with the largest market caps go to this benchmark, and though no sector-weight restrictions apply, any single holding is capped at a tenth of the index's total portfolio.  

A fresh IPO can join the benchmark on the sixth trading day and remain in the portfolio for its first 1,000 trading days, approximately four years—one year longer than the Renaissance fund.  

Of course, for both funds, quarterly rebalancing and reconstitution is a double-edged sword. It allows the fund to capture new entrants as soon as possible, but it also leads to higher turnover, trading expenses and volatility.  

YTD Performance 

IPO has outperformed FPX this year, with an impressive 34.48% year-to-date return, compared to FPX’s 13.50%. The reason for this is clear: 56.72% of its holdings are in the technology sector, which was scorching in the first half, and a few of its top holdings are well-known unicorns: Airbnb, Snowflake, DoorDash and Roblox.  

Let’s keep in mind, however, that these big holdings debuted during the go-go late-2020 and early-2021 period. According to the fund’s own three-year cutoff rule, its top holding Airbnb, for instance, will leave the tracking index (and the fund) on Jan. 1, 2024.  

In contrast, FPX is more balanced across sectors: Electronics is 11.1% and healthcare is 11.45% of total holdings compared to IPO’s 2.87% and 0.87%, respectively. 

This might have to do with the fund’s carve-out mandate, as behemoths like Carrier and Otis were spun out from United Technologies a few years ago, and GE Healthcare recently left its parent company.  

Of course, this means it is holding more profitable companies on average than IPO, with a far better fund P/E and P/B and a higher yield—0.90 versus 0.11. It also means that if the market shifts to value in the second half, FPX should see even better returns.  

Auspicious Sign for Bulls 

It was the Mediterranean restaurant chain Cava, known for its healthy salads, that arguably set the fuse for this new market three weeks ago. The debut of a consumer-facing brand like Cava gave the reopening trade that proverbial “noteworthy event” the media and wider public could latch onto.  

IPOs need a risk-on environment and public attention, as every book runner is looking to both institutional and individual investors to bid up shares. IPOs also tend to be high-growth/high-valuation outfits that perform poorly in rising interest rate environments, so the approaching end to the Fed hiking cycle is also a part of this story.  

For swing traders looking for the possibility of moonshot returns and no overlap with the S&P 500, IPO and FPX both offer a speculative option.  

The fact that last week’s IPOs come from varied sectors is very auspicious, as widening inclusion strengthens the argument that the recent rally is a new bull market, and not just a classic bull trap.   

Even NYSE President Lynn Martin is encouraged, stating publicly on CNBC that she is seeing “a lot of green shoots” and signs of big demand from institutional investors and issuers alike.