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It seems like every other year, investors become infatuated with some type of new investment that starts off strong but ends up going bust.

There was the Dotcom bubble with internet companies in the late 1990s. Next, it was residential real estate in the mid-2000s. More recently cryptocurrencies and pot stocks were all the rage but were eventually met with a humbling crash. Every time it ends the same way, with investors rushing blindly in to get rich on profits they see others making, only to come out disappointed because they didn't take the time to do their homework.

What are SPACs?

Let me introduce the newest craze, the so-called blank check companies also known as the special purpose acquisition companies or SPACs. To validate the idea, investors are all-in on this new investment, a new exchange-traded fund.

The Defiance NextGen SPAC Derived ETF now offers one-trade access to would-be SPAC investors. It tracks all kinds of big-name figures who are launching SPACs to cash in on the trend. Among them are hedge fund billionaire Bill Ackman, former U.S. Speaker of the House Paul Ryan, and Oakland A’s executive Billy Beane.

So what is a SPAC? Basically, SPAC is a shell company that attempts to acquire a private business and take it public. How that happens is that a SPAC raises money from investors in a public offering. It then goes looking around for a business to acquire with the raised funds. If a deal is made, the two companies merge and the SPAC takes the name of the business. The result is a single public company. However, if the SPAC fails to acquire a business within two years (in most cases), investors get their money back.

SPACs appeal to private businesses looking to go public for obvious reasons. Merging with a SPAC allows them to sidestep much of the uncertainty, effort, expense, public and regulatory scrutiny that comes with a traditional initial public offering (IPO).

The appeal to SPAC sponsors is the organizers who run it and hunt for businesses are very clear. If a deal is struck, they’re able to purchase 20% of the business for almost nothing which is like hitting the lottery if the share price takes off after the merger. This was the case with DraftKings’ stock when it merged with SPAC, Diamond Eagle Acquisition Corp. That 20% ownership is in addition to the money promoters make just for showing up.

SPACs historical performances

For investors, the benefits are much less transparent. To begin with, SPACs don’t have a great track record of delivering deals. According to IPO research firm Renaissance Capital, of the 313 SPAC offerings since 2015, only 93 have taken a company public. Even then most of those deals have been a bust.