Fund Profile: IPO Plus Aftermarket Fund

by Ann C. Logue

The dot-com era spawned all sorts of misconceptions about investing, one of which was that initial public offerings (IPOs) were sure-fire ways to make money. Over and over again, an exciting company would go public at a low price, and then shoot up in value as soon as active trading began. The extreme was probably theGlobe.com (defunct), which was up 606% on Nov. 13, 1998, its first day of trading. Yahoo! Inc.’s (Nasdaq: YHOO) IPO gained 35% in its first trading day. Netscape, now part of Time Warner Inc. (NYSE: TWX) was up 167% on its first day, and Google Inc. (Nasdaq: GOOG), which set up its IPO as a Dutch auction process to prevent dramatic first-day gains, still managed to trade up 18% the day it made its market debut.

Issuing companies hate those big first-day gains, because they represent money left on the table. When the new shares have those big initial gains, the demand for shares is strong enough that the company could raise more money if the investment banks had done their jobs better. The investment banks, however, have customers who want to buy low and sell high, and what better way to do it than by getting cheap shares in a popular IPO that is likely to trade big on its market debut? In 2002, the SEC charged Credit Suisse First Boston with keeping IPO prices artificially low so that they could curry favor with certain investment customers, giving them the bargain shares so that they could make a huge profit. After all, if you have reason to know that the buyer of the IPO is going to earn double the money in one day, that allocation of shares can look an awful lot like a bribe — especially if you get to choose who receives that allocation. Between that and the bursting of the dot-com bubble, even a hot IPO isn’t as exciting as it once was — and any investment banker can tell you about the deals that barely got done, that declined in price on the offering, or that had to be pulled because the demand for the shares simply wasn’t there. Buying IPOs is not a route to wealth; buying good IPOs is.

Of course, even a slightly warm IPO can generate better performance than the market indexes, especially in recent months, which brings us to the IPO Plus Aftermarket Fund, developed during those heady days of hot IPOs and persisting into the current decade. The original marketing concept was that individuals could not receive shares in hot initial public offerings, but institutions could; because it was considered to be an institutional account, investors could get exposure to these shares through the fund. The fund’s investment strategy is to put at least 80% of its money into the shares of companies in their initial public offering or during aftermarket trading. The time period for “aftermarket” isn’t defined, but the companies that the fund management will look at include those with limited research coverage, unseasoned trading, limited float, limited public ownership, or limited operating history. The fund’s largest holding, as of July 2007, is Aecom Technology Corporation (NYSE: ACM), an engineering consulting firm that is up 45% since its May 2007 IPO. Its second largest holding, DynCorp International Inc. (NYSE: DCP), is a defense contractor that came public in May of 2006. Google is the fourth-largest holding, more than three years after its IPO closed.

The IPO Plus Aftermarket Fund has a $5,000 minimum investment ($2,500 in a retirement account), with no load, although there is a 2% redemption fee on accounts closed within 90 days of opening. The expense ratio stands at 2.54%, in part due to a fee waiver that reduces costs. That’s important given this fund’s tiny asset base of $18.1 million.

This fund is not a core holding. The fund’s performance is spotty; when it does well, it ends up with a lot of short-term capital gains that can be expensive at tax time. If you want to take some risk, you can put this into an IRA account to shield the tax effects. If you are willing to trade in and out of your mutual funds, the IPO Plus Aftermarket Fund could pay off handsomely during a bubble involving new companies and new technologies. And there will be more bubbles, the only question is when.

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