Special Purpose Acquisition Companies (SPACs) are blank check companies that raise funds through initial public offerings (IPOs) to merge with private firms. In 2021, the U.S. saw a surge in SPAC deals, with 613 IPOs raising over $161 billion. This rise in popularity contrasts with SPACs mixed performance, which has caught the attention of regulators.

We show that the rise of SPACs may be explained by investor overconfidence. Investors may overestimate their ability to assess interim information, e.g. in the form of disclosures surrounding a SPAC merger, leading them to overvalue the units sold by SPACs. This overconfidence artificially cheapens the capital available to SPACs, resulting in overinvestment and negative returns for less informed investors.

We evaluate different regulations within our model and show that restricting access to SPACs for less sophisticated investors and limiting the bundling of warrants with shares may restore investment efficiency. Additionally, while mandatory disclosures may seem beneficial, they could inadvertently harm unsophisticated investors by amplifying their overconfidence.