Will M&A Continue to Boost Portfolios in 2018?
While it’s a fact that global M&A was down slightly from a record year in 2016, it’s hard to find too much fault with 2017’s global deal value: $3.15 trillion (compared to $3.26 trillion the year before, per Mergermarket). In the U.S., the numbers were about $1.5 trillion and $1.26 trillion, respectively, while the volume of U.S. deals was flat – 5,325 in 2016 and 5,326 in 2017.1 By any measure, that’s a pretty good year.
There’s reason to be optimistic heading into 2018 as well. The tax bill is now a reality, and should support increased corporate profitability. Companies have large cash reserves on their balance sheets and plenty of incentive to repatriate the billions of dollars now held abroad. Interest rates are still low. Companies still need to grow, enter new markets, and gain access to new products and ideas.1 All of these reasons and more were why we included a continued strong M&A environment among our Top ETF Trends and Insights for 2018.
The past year saw several deals that might be thought of as “transformational.” Most prominently, Amazon acquired Whole Foods in a $13 billion transaction, giving it a foothold in the brick and mortar end of the grocery business. CVS and Aetna proposed getting together in a combination valued at around $68 billion. Disney and Fox decided to get together.1 We expect more of these kinds of deals this year, as deregulation changes the playing field and technology becomes ever more disruptive.
As we have noted previously, there are various ways for investors to gain exposure to a robust M&A market. But, keep in mind that the most obvious way – trying to anticipate who’s going to acquire whom and when – is not necessarily the best way. In spite of the fact that there are thousands of deals every year, identifying buyers and sellers in advance of any transaction is not easy. To make it even more complicated, the market reaction to an announced deal may not be what an investor expects.
A merger arbitrage strategy generally seeks to avoid these complications. Instead of trying to guess who’s buying and selling in advance, it seeks to exploit the gap that often opens up post-deal announcement between the proposed price for a target company and the trading price. The strategy profits as that gap closes, driven by one of several factors: increasing market confidence that the deal will get done, speculation that another acquirer will come along and offer a higher price, or the movement of the deal towards completion at the announced price.
The returns from a merger arbitrage strategy have the potential to be more predictable and dampen overall portfolio volatility, based on the characteristics of a deal. There’s also a possibility of global diversification. According to Mergermarket, the U.S. accounted for just over 40% of deal activity in 2016, down from 45.5% the year before, and the lowest percentage since 2012.1 Global deals can provide exposure to non-dollar assets.
As the New Year gets underway, there’s general optimism in the dealmaker community that 2018 will see continued, strong M&A activity. For equity investors who want exposure to this trend, a merger arbitrage strategy provides one compelling approach.
Related solution:Learn more about IQ Merger Arbitrage ETF (MNA) now.
1. Vlastelica, Ryan, ‘M&A activity slowed in 2017, and this year could be no better’, MarketWatch, 1/3/18.
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Merger Arbitrage (M&A) involves simultaneously purchasing and selling the stocks of two merging companies to create “riskless” profits and is often considered a hedge fund strategy.
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