Interest in Merger Arbitrage Funds Up a Tick
Hedge funds focused on merger arbitrage were up almost 8 percent in 2009, according to data from Hedge Fund Research. Perhaps not surprisingly, investors looking to diversify their portfolios and achieve reasonable returns increasingly mentioned their interest in these funds during the first quarter.
A merger arbitrage strategy seeks to take advantage of the price movements of a company’s stock after a merger is announced. Specifically, traders will buy the target company’s stock with the expectation that it will increase in value when the deal closes. Generally that happens, but the stock doesn’t usually rise as high as the acquiring company’s offer price. The spread between the two prices reflects the risk that the deal may not be completed.
Investors are telling BHA analysts that they believe merger arbitrage funds are a good way to diversify a portfolio because they are not affected by the market’s ups and downs. Additionally, because of the recent economic downturn, investors say there are numerous opportunities for the sophisticated arbitrager.
A U.S.-based endowment that has traditionally invested in hedge funds through funds of funds has recently decided to allocate directly, with a specific emphasis on merger arbitrage and event-driven funds. The endowment believes that M&A investment opportunities will continue to expand, and it is looking to capitalize on this trend by committing to a manager before year-end. The endowment also is looking to diversify its portfolio with highly uncorrelated strategies, and it believes merger arbitrage funds are an essential piece of this asset allocation strategy.
A fund of funds based in the Midwest is specifically seeking opportunities with special situations, fixed-income arbitrage, and merger arbitrage funds, but merger/risk arbitrage is its primary focus. The firm is seeking managers that have experience in arbitrage strategies and have been investing in these strategies for at least three years. The firm does not want to miss out on the countless opportunities it believes exist in the M&A space, and is planning to make an allocation by the fourth quarter.
M&A activity has grown tremendously over the past two years, giving hedge fund managers and portfolio analysts many deals from which to choose, and allowing them to be more selective. With the growing M&A activity and the increasing number of investors looking for shelter from a volatile equity market, merger arbitrage is a strategy likely to rise in importance with investors seeking absolute returns.