Index funds fueling speculation: The Vanguard Extended Index Fund was a shareholder of FaZe stock, buying in at $15.28, which means it suffered a 99% loss on its position.

Index Funds Fueling Speculation: Vanguard Extended Index Fund and SPACs

Fueled by hundreds of billions of government stimulus and the Federal Reserve’s low interest rate policy, the high flyers of the 2021 stock market were speculative meme stocks and SPACs (special purpose acquisition companies). In addition to individual buyers, index funds fueled speculation and got in on the action.

“SPAC” stands for Special Purpose Acquisition Company. It’s also frequently referred to as a “blank-check company.” The basic structure of a SPAC entails a sponsor raising money in an IPO, holding the funds in a trust, and then looking for a private company to acquire which is then merged with the SPAC. In this way, private companies can easily become public, with less regulatory restrictions than the traditional IPO process.

There is nothing inherently wrong with this structure, but it invited a parade of speculative companies to go public, especially those that did not have a viable business.

CNBC wrote an excellent summary of the 2021 speculative frenzy. One of the most absurd examples of the mania was a tiny Paulsboro, New Jersey deli that reached a $100 million market capitalization despite only having $35,748 in sales over two years. The insiders were subsequently charged with fraud.

Sadly, many small investors were burned by buying these shares.

But who else was buying?

Our friend Mike Green highlighted another collapsed SPAC on Wednesday, a gaming company called FaZe. The company went public via SPAC in July 2022 in a $725 million deal, although it tanked 25% in its first day of trading. Now the shares trade for about $0.18, leaving investors with enormous losses.

Mr. Green shows that the Vanguard Extended Index Fund was a shareholder of FaZe stock, buying in at $15.28, which means it suffered a 99% loss on its position. This Vanguard fund focuses on mid and small cap stocks, and of course being an index fund, does zero fundamental research on its holdings.

It is hard to imagine a more fertile environment for shenanigans than to have a large buyer that does zero due diligence on its purchases.

Leave a Comment

Your email address will not be published. Required fields are marked *