The recent woes of Longfin stock make for very interesting reading if you have not been following this company. Longfin has it all really – cryptocurrency, share trading and heck, it has even impacted the ETF sector.

Let’s start with who Longfin is: a trade finance company that is listed in the US on NASDAQ. It specialises in blockchain technology. But while it is listed on a major US stock exchange, most of the Longfin stock is not publicly accessible. The free float of the Longfin stock – i.e. the amount that is being bought and sold on a regular basis – is relatively small.

Longfin stock soared in December

Longfin’s venture into the cryptocurrency space started in December when it bought Ziddu.com, a move that drove its share price through the roof (remember that the supply of Longfin stock is quite limited). This left it with a market capitalisation of more than $2 billion.

Enter FTSE Russell, which designs and manages thousands of stock market indexes. This includes some of the key US benchmark indexes like the Russell 2000 and Russell 3000 indexes. The indexes are tracked by many exchange traded funds around the world. FTSE Russell, based on Longfin’s market cap, decided to include Longfin stock in both the benchmark Russell 2000 and Russell 3000 indexes.

By doing so, FTSE Russell breached its own rules, because it should not be including stocks that have such a small free float. Companies need to have a free float of over 5% to be eligible – this is partly because ETF managers will want to buy the shares to mirror the index. Longfin shares only represented 2.5% of the value of the company.

What happened next was that the big ETF fund managers automatically piled into Longfin shares: the bigger trackers gobbled up close to 45% of the outstanding shares. Blackrock alone owned close to 30% of the free float in its ETFs by the end of last week. The buying activity had also managed to increase the value of Longfin shares by over 70% in the space of a fortnight.

FTSE Russell yanks Longfin stock from indexes

The Longfin share price was not going up because the company was simply more valuable – it was being driven up by ETFs seeking to replicate the index. It is a stunning example of how influential index tracking funds are now in today’s market.

In a statement issued yesterday, FTSE Russell said it would in fact be dropping Longfin from its indexes because of the aforesaid free float issues. This will mean an immediate reversal of the Longfin share price. On top of that, it was also labelled as a ‘pure stock’ scheme on Monday by Citron, a US research firm, which claimed that the company might become the subject of an investigation by the SEC, potentially because of inaccurate filings.

Longfin’s investor relations representatives have defended the firm against these allegations from Citron, claiming they have no basis. In addition, the company’s CEO, Venkat Meenavalli, has consistently argued that the valuations seen in Longfin stock since December are not justified and are being driven by the speculative frenzy that surrounds blockchain and cryptocurrencies at the moment.

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27th March 2018
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