It’s important to note that index funds will eventually get in, so it’s not like 401k will never be holding these stocks. It would be silly to assume that the stock is going to tank that much on day 1, on the asumption that there are not enough investors to buy the big three IPOs that are coming out this year. There is plenty of money in the market, and everyone knows index funds will buy these stocks when the companies get in, so everyone will be able to dump them if needed in a year or so.

Btw I don’t really know how index funds work, but if they need to track the index as closely as possible, they will all have to buy those stocks on a certain day, no? There will be a crazy price hike when they do so. Or maybe they have terms that let them smoothen their trading around entry and exit?

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dmurray 2 hours ago | parent | next [-]

To a first approximation, yes, the index funds all need to buy the stock on the same day.

An unexpected surge of buying like this should lead to a big price hike. But everyone knows it's happening, so you'd expect every hedge fund and proprietary firm in the world to buy the day before the index funds buy, and sell into the price hike. So in fact the price hike will be a day earlier than expected. But wait, anyone smart enough to see that should buy the previous day...

In this way the "smoothing" of the trading at entry and exit gets passed on to intermediaries: other market participants who are expert at this.

This all costs the index funds, because every dollar of profit for the other firms is a dollar out of the pocket of the end investor. And huge index events like this are a particular bonanza for these traders. But it probably costs less than you think. Ultimately it's a highly competitive market: the slippage from this approaches the extent to which the prop traders have a higher cost of capital, plus a small risk premium. And remember that they don't have to find "extra" money to fund this trade. When they buy SpaceX they will sell 499 other stocks, doing the same trade there in reverse. Here's a study that approximates the effect at 0.86%[0]. By comparison, the banks underwriting the IPO typically take around 6% [1]. Though this will be smaller for a huge IPO like SpaceX, while the index arb trade will be bigger.

[0] https://www.eastspring.com/hk/insights/deep-dives/navigating...

[1] https://www.pwc.com/us/en/services/consulting/deals/library/...

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Panzer04 an hour ago | parent | next [-]

0.8% of drag is a lot when you can do basically the same thing by not strictly following the index.

There are funds from Dimensional and Avantis that are basically just index funds but with a bit more leeway to avoid these obvious pitfalls, and from what I saw they do perform approximately 0.5% better per year.

	▲	d--b an hour ago \| parent [-]
		0.8% is substantial indeed, but if i understand correctly, it’s 0.8% on that one stock, so much less on the index itself. Those funds that perform better probably take a higher management fee that might cancel out the gain. May be worth it to have a smoother return though.

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imtringued an hour ago | parent | prev [-]

>This all costs the index funds, because every dollar of profit for the other firms is a dollar out of the pocket of the end investor.

This is so wrong I'm not sure you understand common sense economics and by economics I don't mean anything you can find in a text book. If I invest nothing, the other investors or traders can still make a profit without costing me anything.

Opportunity costs are never real costs. If I have $10, and the traders do weird things with the prices and I don't spend the $10 on anything, I still have $10. The traders failed to cost me.

You're also ignoring the underlying issue which is that the valuation of SpaceX on the open market is different than the valuation it could get from forcing index funds to buy in early. If the stock is worthless then short sellers will make money, but short selling only works if the short sellers don't get squeezed. If the passive funds buy two weeks in, then early traders know that they can sell to a greater fool at inflated prices. Any short seller who is trying to discover the true price will stay back and short directly after the indexes have bought. That's the perfect moment for them. They want the post IPO hype and bull market, only for the stock to collapse within a year.

	▲	dmurray 27 minutes ago \| parent [-]
		There's a real desire out there to tell a narrative where SpaceX is a massively fraudulent piece of financial engineering, a pump and dump scam where the stock will "collapse within a year" and retail investors will be left holding the bag. There's definitely some financial engineering at the margins, but as I see it the facts are: - Musk is still going to own 40% of the company. If he's selling 4% of it, his incentives are aligned with keeping the rest of it high - the index funds ultimately are fast tracking the big IPOs because their customers, in aggregate, want that. And the market structure really has changed since the days when the index inclusion rules were first written and companies went public smaller. - People have been banging the same drum about short sellers with Tesla since at least 2017 - AFAIK it's still one of the most shorted stocks - and it's up 20x since then. - Institutional investors with more sophisticated strategies than "buy the index" or "pump and dump lol sell to the index funds" will be participating in the IPO and in fact will be the main drivers of price. Everything I've seen suggests that if this is a "retail heavy" IPO, that means 20 or 30% of the shares ending up with retail instead of a more typical 10. These other institutions could be wrong, but they're not mechanical price takers. I've shown above how one of the effects people make the most noise about - the index balancing arbitrage - is likely an effect of order of magnitude 1%. It's on the noisemakers to show how any of the other effects you mention can be massively more impactful.

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ywvcbk 27 minutes ago | parent | prev [-]

> There is plenty of money in the market

Their float will be very small so yes, the value of their shares that anyone could buy at even the most optimistic valuations would be tiny compared to most public megacaps.

> Btw I don’t really know how index funds work, but if they need to track the index as closely as possible, they will all have to buy those stocks on a certain day, no?

S&P wouldn't include them until they became profitable and even if they did they wouldn't even be in the top 20.