tracking stock

Best defined with an example. Suppose Company A purchases a business from Company B and pays B with 1 million shares of A's stock. The agreement provides that B cannot sell the 1 million shares for 60 days, and also prohibits B from hedging by purchasing put options on A's shares or short-selling A's shares. B is worried that the market may fall in the next 60 days. B could hedge by purchasing put options or selling the futures on the S&P 500. However, it is possible that A's business is much more cyclical than the S&P 500. One solution to this problem is to find a tracking stock. This is a stock that has high correlation with A. Let us call it Company C. The solution is to sell short or buy protective put options ( protective put buying strategy) on this tracking stock C. This protects B from fluctuations in the price of A's stock over the next 60 days. Because the degree of the protection is related to the correlation of A and C's stock, it is extremely unlikely that the protection is perfect. Multidivisional firms have used a form of restructuring called tracking stock since 1984 to segment the performance of a particular division — similar to a spin-off or carve-out, except that the parent firm does not relinquish control of the tracked division. Previously, this was known as alphabet stock, but the technically correct name is tracking stock ( e.g., EDS traded for years as a tracking stock of GM). This is a way to reward managers for good divisional performance with an equity that is tied to their division-rather than potentially penalizing them compensation for bad performance in a division they have no control over. Bloomberg Financial Dictionary

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tracking stock UK US noun [C or U] FINANCE, STOCK MARKET

► a company's shares that pay out dividends based on how much profit a particular part of the whole company makes, rather than its main shares: »

The company issued a tracking stock to highlight the value of a part of the business that had been overlooked.