Both exchange traded funds (ETFs) and mutual funds can invest in initial public offerings (IPOs). However, many of them have specific or implicit rules against doing so. There are also numerous funds that can invest in IPOs, and a few of them are specifically dedicated to IPOs.

Key Takeaways

  • Both ETFs and mutual funds can invest in IPOs.
  • Many funds have rules against investing in IPOs.
  • The stated goals of ETFs and mutual funds often give investors a good idea of whether they invest in IPOs, but it is best to check their rules to be sure.
  • As of 2020, there were several ETFs focused on IPOs.

Mutual Funds

In actual practice, most mutual funds have bylaws that prevent them from investing in IPOs until the stock has traded for more than six months. There tends to be a lack of liquidity in many newly issued stocks that distorts pricing.

Additionally, the first six months are dominated by insiders using market liquidity to unload their shares. Furthermore, hype rather than fundamentals usually drives gains in the stocks during this period.

IPOs are often for companies with unproven business models and lack of a track record. Mutual funds tend to be conservative, so some of them only invest in companies with track records of sales and earnings. That indirectly disqualifies them from investing in IPOs.

On the other hand, many mutual funds with aggressive growth profiles already invest in IPOs. IPO investing has increased with these funds, especially with high-profile names going public, such as Uber and Palantir. What is more, Airbnb, DoorDash, and Robinhood had plans for IPOs in late 2020.

There were also some mutual funds created to invest in IPOs in response to investor demand. Many of them even made investments in private markets, giving retail investors early access to hot IPOs. Of course, investing in such products came with increased risk.

ETFs

ETFs rely on the rules of their respective indexes to determine whether or not they invest in IPOs. For example, the S&P Composite 1500 required that shares trade on a major exchange for at least 12 months before inclusion in the index.

On the other hand, the S&P Total Market Index added eligible IPOs during each quarterly index rebalancing. Furthermore, the S&P Total Market Index also had a fast track procedure for adding large IPOs within five business days.

Certain ETFs, such as those focused on dividend aristocrats, stay well clear of IPOs by design. Other ETFs, especially those aimed at growth investors, are more likely to have rules that get them in on IPOs fairly quickly.

In general, the stated goals of ETFs are usually a good guide to whether they invest in IPOs. However, it is best to look into the rules for the ETF's index to determine for sure how it handles IPOs.

Mutual Funds Focused on IPOs

In 2015, the only mutual fund that invested exclusively in IPOs was the Renaissance Global IPO Fund. The fund began in 1997, and it invested in promising IPOs across the world. It was considerably riskier than the overall market, given the elevated valuations and uncertain prospects of these businesses. In 2018, the Renaissance Global IPO Fund closed after interest in IPO funds shifted to ETFs.

IPOs include many of the newest and most innovative companies, so funds investing in them must change rapidly as well.

ETFs Focused on IPOs

With the demise of IPO mutual funds, investors interested in IPOs still had access to the First Trust U.S. Equity Opportunities ETF (FPX) and the Renaissance IPO ETF (IPO). Both of these passively tracked major indexes composed of U.S. IPOs.

In contrast, the Renaissance Global IPO Fund was an actively managed product with higher costs. The Renaissance IPO ETF held the top 80% of IPO stocks for two years after they began trading.

There were also several ETFs focused on international IPOs available to investors. The First Trust International Equity Opportunities ETF (FPXI) was similar to FPX, but it gave access to international IPOs. Similarly, the First Trust IPOX Europe Equity Opportunities ETF (FPXE) provided a way to invest in European IPOs. Renaissance also offered an international IPO ETF, the Renaissance International IPO ETF (IPOS).

Finally, there were a few specialty IPO-related ETFs. Invesco's S&P Spin-Off ETF (CSD) focused on new companies that were spinoffs of existing firms. The Defiance Next Gen SPAC Derived ETF (SPAK) invested in special purpose acquisition companies (SPACs) before the IPO and in SPAC-derived companies after the IPO.