Weekly brief

RIDE THE M&A WAVE WITH MERGER ARBITRAGE

We believe Merger Arbitrage is an all-weather strategy that investors should own for the long run. It is a low volatility/ low beta strategy, focused on capital preservation. Its track record in bad times, when risk assets sold off, is outstanding. As a low beta strategy, investors should not expect it to capture large market swings. In that regard, returns in the past two years were quite illustrative. While the MSCI World is on track to deliver returns in excess of 20% this year, we estimate Merger Arbitrage strategies were up less than 3%. But the reverse is also true, hopefully. In 2018, Merger Arbitrage managed to deliver positive returns while the MSCI World was down almost 10%.

 

Overall, the environment continues to be supportive for the strategy. Challenges to organic growth and technological disruption are encouraging companies to consider M&A or new capital allocation strategies. Low rates will continue to enable buyers to obtain cheap financing and add to the overall attractiveness for the deal making environment.

On top of these structural features, we believe cyclical factors will also be supportive for performance next year.

 

- Macro and political risks appear to have receded (U.S. recession, trade wars, hard Brexit). Such risks hampered global M&A activity in early 2019, which in turn, translated into a tightening of deal spreads. The situation has normalized since then. Spreads have been notably wider on deals with greater regulatory uncertainty or on certain high-profile deals that are being contested by skeptical shareholders.

 

- Deal pipelines continue to be very full. Growing clarity on Brexit has helped spur a renewal of European deal activity. In the U.S., a recent pick up in M&A volumes and the associated widening of deal spreads allowed managers to deploy capital, which should prove supportive going forward.

 

- M&A activity may accelerate ahead of U.S. elections as CEOs, especially in the health care sector, could bring forward merger plans to cope with the regulatory uncertainty that may occur if Democrats win the election, as some polls currently suggest.

 

Our views on Event-Driven are highly constructive. We recently aligned our midterm stance between Merger Arbitrage and Special Situation strategies, at OW, though with a preference for the former on a risk adjusted basis