Since my last update on the challenges facing the ERShares Private Public Crossover ETF, or XOVR, the situation has deteriorated significantly. On Wednesday alone, investors pulled out around $630 million. To manage these redemptions, the fund sold off some of its publicly traded shares, increasing its stake in SpaceX’s special purpose vehicle (SPV) to 44.5% of its total net assets.
This essentially means the ETF is heavily laden with illiquid assets, far exceeding the SEC’s guideline of a 15% limit for such holdings. Naturally, this raises quite a few eyebrows among investors.
What happens next?
It feels like we’re at a pivotal moment. We’ve seen similar scenarios before, like when Russian stock ETFs were suspended during the Ukraine invasion, but we’ve never witnessed an ETF becoming so dominated by illiquid securities.
The next steps hinge on two main factors: the fund’s inflows and whether management can reduce the SpaceX SPV stock it holds.
If investors keep pulling out, the concentration of illiquid assets will grow, creating even more pressure on the ETF. This is a real-time risk, as ETFs—normally liquid instruments—are increasingly filled with non-tradable assets.
Moreover, issues could escalate if management struggles to offload any part of the SpaceX SPV stock. Ideally, a mix of positive inflows and solid performance from publicly traded stocks could alleviate some of the burden from the SPV. But will that happen? It’s hard to say.
Right now, it’s unclear if ETFs can continue to operate smoothly at prices close to their net asset values. So far, it hasn’t posed a significant issue, mainly because market makers have managed trades behind the curtains. However, this was when the SPV stake was much smaller.
We also hadn’t anticipated that the ETF’s board would pause new investments, effectively closing it off to further inflows. This could lead to the ETF trading at a premium to NAV, resembling a closed-end fund. Plus, it seems unlikely they would seek to restrict further redemptions.
Instead, we might be heading down a rocky path. If managers can keep the SpaceX SPV stakes in check, the ETF could function relatively normally. On the flip side, if redemptions surge or public stocks are sold off, the SPV’s representation could grow even more.
This situation could widen the bid-ask spread, risking the ETF trading at a discount to its NAV. Investors might also incur losses if part of the SPV had to be sold under unfavorable conditions—something that’s not uncommon given the difficulty of trading SPV units compared to private equity.
What should investors do?
Looking at the stocks in the ERShares Private Public Crossover ETF, the manager’s approach seems to lack clear disclosure, particularly regarding its SpaceX SPV position. Despite SpaceX’s soaring valuation, returns from the SPV have been minimal, raising considerable skepticism.
It appears the management underestimated demand for the ETF, leading to an oversized SpaceX SPV position. This miscalculation raises serious questions about the company’s risk management practices.
Given all this, potential investors should be very cautious about entering the ERShares Private Public Crossover ETF.
Investors are in a tricky spot right now. While some value may come from SpaceX’s SPV and the benefits of owning publicly traded shares, increased outflows and losses could mean holding onto an ETF increasingly skewed toward illiquid stocks.
The risks? Investors might end up with a portfolio that’s hard to liquidate and could see market prices fall below NAV. Management might feel pressured to sell some shares in the SpaceX SPV, potentially at a loss to existing shareholders. Some sales did occur on Wednesday, but those were likely made with cash on hand.
Ideally, we hope to navigate these challenges, but current shareholders ought to remain vigilant and aware of the various potential pitfalls ahead, especially given the ETF’s rather rocky history.
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