Merger & acquisition activity recently hit a seven-year high, with global deal value topping $1 trillion at the end of the second quarter, according to various news reports. Big transactions have generally led the way, though there are signs that activity is picking up in the middle market as well.
The factors driving this current activity are the same ones that have been cited for awhile – low interest rates, high levels of cash on corporate balance sheets, and a slow growth economic environment which is leading companies to seek new revenues and market opportunities through strategic combinations.
As an investor, it’s hard not to notice when a deal is announced and the stock of the target company jumps. But trying to determine in advance which companies are most likely to be acquired at a premium is like trying to catch lightning in a bottle. As an investment strategy, this is almost certain to end badly.
But there are other ways to go about participating in the current takeover wave. For example, merger arbitrage strategies seek to exploit the difference between the announced purchase price for an acquisition and the current trading price, recognizing that the target company will often trade at a discount, a circumstance that reflects in part uncertainty as to whether or not a deal will get done. While the returns form this approach may be less dramatic than correctly guessing a future takeover candidate, they are likely to be more predictable. The IQ Merger Arbitrage ETF (NYSE Arca: MNA) is an exchange-traded fund (ETF) that pursues this strategy.
Typically, merger arbitrage funds (both hedge funds and mutual funds) use fundamental analysis to select the deals in which they participate. But it is also possible to build a strategy around a rules-based approach, investing in a broad range of announced deals at month’s end and refreshing that list every month.