Too Busy to Track Spin-offs? Pick up CSD

Posted Jul 16th 2007 9:45AM by Kevin Kelly
Filed under: Columns

Readers of Joel Greenblatt's first (and best!) book, You Can Be A Stock Market Genius, all understand the value proposition of spin-offs. But I doubt everyone has read this book, so I'll quickly explain why spin-offs are extraordinarily interesting, especially to value investors.

Basically, spin offs have built-in value simply because of the process by which they're structured. When a company is spun off, owners of the parent company receive the stock. Because many of the owners of the parent company are mutual funds, pension funds, etc. with strict covenants which define what the fund can own, many of these funds are forced to immediately sell the spin-off regardless of the price received. As a result, many spin-offs are immediately de-valued once they begin trading.

In addition, many of the companies being spun-off appear to be very unattractive at first. The businesses are often more boring, lower-multiple, and higher-indebted than the parent company. While this seems like a bad thing, it's actually a very good thing because many of these companies receive even further dissatisfaction from investors prior to even getting a chance. As a result, a business worth just 12x earnings might fetch only 9x earnings because of the circumstances.

Lastly, managements of spun-off companies are sometimes able to produce much better than expected results simply because they are much more incentivized than the management when the company was just a unit at the parent company. The management team often gains stock or options when the new unit comes public. As a result of these incentives, many argue these executives are more likely to cut costs and do things to help the newly formed company.

The much-quoted study to back spin-offs is the Penn State study referenced in Greenblatt's book. This study spanned for 25 years (1963-1985) and found that spin-offs outperformed the S&P 500 by 10% per year in their first three years as independent companies.

All this being said, spin-offs are not that easy to track and invest in as an individual investor. For many people, constantly following SEC filings to find new spin-off investment candidates is a burden in which they don't want to be entangled. Before recent years, these investors would undoubtedly miss out on the potential profits in spin-offs.

But today is a new day and there is an ETF available for investors who believe in the 'spin-off thesis.' Investors can purchase the Claymore/Clear Spinoff ETF (AMEX: CSD). This is u

undoubtedly one of the most interesting ETFs being offered in today's day and age.

Basically, the ETF has a pool of stocks including any company that was spun-off within the last two years. It then sorts and rates these companies by a variety of factors such as P/E ratios, ROE, growth, and so on. Then the 40 highest ranking stocks are selected and purchased.

As displayed by the chart on the right, the ETF has been doing very well compared to the primary index used in the United States, the S&P 500.

In addition, the ETF held up very well in backtesting:
Year ----- ETF ----- Russell Midcap Growth
6-Year 12.37% ---- 2.87%
5-Year 18.36%---- 8.22%
3-Year 24.11%----12.73%
1-Year 17.90%-----10.66%

This ETF is an extraordinary offering for investors who believe in spin-offs but don't have the time or desire to track the offerings in the market.

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