Reddit and Astera Labs IPO Frenzy: Strategies to Ride the Wave of New Listings

The initial public offering (IPO) of Reddit has drawn attention to IPO ETFs.

The "American subreddit" Reddit made its debut on the New York Stock Exchange under the ticker symbol "RDDT". The stock was initially priced at $34 per share, but opened at $47 on its first day of trading, marking a 38.2% increase.

By the close of trading, Reddit's stock soared by 48% on its first day, marking the first IPO for a social media company since Pinterest's debut in 2019. Reddit's performance upon listing will serve as a significant window into observing the state of the IPO market's recovery within the tech industry.

What are IPO ETFs?

IPO ETFs are exchange-traded funds primarily invested in stocks of companies that have recently gone public through an IPO. These ETFs provide investors with diversified portfolios of newly listed companies. It's important to note that IPO ETFs typically do not participate in the IPO itself; rather, they purchase stocks of newly listed companies shortly after they begin trading on the exchange.

The operation of IPO ETFs is as follows:

Selection process: IPO ETFs typically follow specific indices or strategies to select and invest in newly listed companies. This selection process may vary among ETF providers but usually includes companies that have gone public within a certain timeframe (such as the past six months or year).

Diversification: IPO ETFs aim to provide investors with diversified investments in a broad range of sectors and industries of newly listed companies. By holding a basket of IPO stocks that are not typically found in major indices, these funds help mitigate risks and lessen the impact of any individual company's performance on the overall investment portfolio.

Active management or passive tracking: Some IPO ETFs are actively managed, meaning portfolio managers actively select and manage holdings based on assessments of company prospects. Others may passively track indices following predefined IPO stock selection methodologies.

Performance: The performance of IPO ETFs depends on the performance of the underlying IPO stocks they hold, as well as current market conditions and investor sentiment. As a result, the performance of these funds often varies from year to year and may not closely correlate with broader market indices such as the S&P 500.

Risks: Investing in IPO ETFs carries certain risks, including inherent volatility associated with newly listed companies. IPOs may be more volatile than mature stocks due to limited trading history, uncertainty about future prospects, and factors such as potential speculation or hype surrounding the IPO. Additionally, expense ratios of IPO ETFs may be higher compared to more traditional index ETFs.

Two IPO ETFs ranked by assets under management:

Data as of March 20, 2024. 

First Trust US Equity Opportunities ETF (FPX)

The FPX tracks the IPOX 100 US Index, which is a market-cap weighted index of the 100 largest US companies that have gone public within the past 1,000 trading days. Stocks can be bought after the sixth trading day's close and sold after the 1,000th trading day, with a holding period of approximately four years.

FPX has assets under management of $780 million with an expense ratio of 0.61%.

Renaissance IPO ETF (IPO)

The IPO tracks the Renaissance IPO Index, which comprises the largest and most liquid US IPOs in recent years. The fund acquires stocks within three years of their IPO and sells them after three years of public trading.

The IPO has assets under management of $190 million with an expense ratio of 0.60%.

It's worth noting that FPX is not purely focused on IPOs but has a broader scope of operations, including investments in spin-offs and carve-outs. The passive fund tracks the IPOX 100 US Index, which includes the largest 100 US companies by market capitalization, with each individual holding capped at 10% of the total index portfolio.

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

Due to its more targeted risk exposure and shorter holding period for stocks, IPO is considered a purer play on IPOs.

Outlook for Reddit IPO

Reddit's IPO serves as a litmus test for investor interest in new stock listings, coming over two years after Reddit began preparing for its IPO. The recovery of the IPO market has been uneven so far this year.

Reddit is the first major social media company to go public since Pinterest (PINS) in 2019. Analysts believe that this successful listing will signal the starting gun for tech companies whose issuance plans have been on hold. Other companies waiting for venture capital support may initiate their IPO processes shortly.

Recently, Astera Labs, an AI company known as the "small $NVIDIA (NVDA)$", also went public on the NASDAQ with a market capitalization exceeding $10 billion at one point. Like Astera, investor enthusiasm for Reddit is largely attributed to its AI-related business.

In early 2021, Reddit gained notoriety for "retail investors squeezing Wall Street", and after completing a $410 million Series F financing round in August of the same year, Reddit's valuation reached $10 billion, with Fidelity leading the round.

According to the prospectus, Reddit's revenue reached $804 million in 2023, a 20.5% year-on-year increase, with a net loss of $91 million, narrowing from $159 million in 2022. As of the fourth quarter of 2023, the average daily active users were 73.1 million, with 268 million weekly active users.

Tom Sosnoff, CEO of US brokerage TastyLive, said in an interview that Reddit will meet the demand from investors looking to bet on social media growth. She said, "Because for most investors, it will be the only tradable pure social media app."

Bottom Line on Investing in IPO ETFs

The IPO market experiences fluctuations annually. For example, in a strong bull market where stock prices are rising, companies can capitalize on investor enthusiasm and potentially raise more funds through IPOs. Conversely, a bear market with falling stock prices may hinder IPOs due to lower valuations and investor reluctance.

In addition to current economic and market conditions, investors interested in IPO ETFs should carefully consider their investment objectives, risk tolerance, and investment horizon before investing. Furthermore, it is essential to conduct in-depth research on specific IPO ETFs, including their investment strategies, holdings, fees, and historical performance.