Merger Arbitrage Analysis And Spread Performance – October 4, 2020

This weekly column explains the reasons behind the movement in a selection of the largest U.S. cash merger arbitrage spreads from the past week as calculated by Merger Arbitrage Limited. We analyze the attractiveness and profitability of each spread going forward and indicate the trading position or action we have taken or intend to take based upon the analysis given.

Fitbit (FIT)

Fitbit was the top performer from our index of the largest cash merger arbitrage spreads this week. This continues a resurgence in the performance of the stock which had previously traded significantly lower when news of the involvement of the EU Antitrust Authority first became public.

Data by YCharts

Following an extension to the 90 day EU competition investigation which is now scheduled to conclude by December 23, 2020, Google has offered additional concessions to help the deal progress. Amongst these concessions, Google said in a statement are

We’re also formalizing our longstanding commitment to supporting other wearable manufacturers on Android and to continue to allow Fitbit users to connect to third party services via APIs (application programming interfaces) if they want to.

Upon hearing this news the market reacted positively and sent the stock sharply higher in early Tuesday morning trading. This action complements our previous analysis perfectly when we suggested the extension was seen as a positive sign and

working on the assumption the parties are in communication with the regulators and will be able to resolve any issues before the deadline.

Google’s previous statement about the use of Fitbit data had done little to appease regulators. However, this latest round of negotiations is being viewed by many observers as sufficient to allow the deal to proceed and has caused the deal closing probability (DCP) to rise significantly.

Having risen steadily throughout the week, by the close on Friday the stock finished higher by $0.39, at $6.92, a rise of 5.97% against an offer price of $7.35 from Google (GOOG, GOOGL). This still leaves the simple spread at 6.21%. We will continue to hold and still consider the relatively large simple spread to be an attractive investment opportunity for a deal which may even close before the end of the year.

Merger Arbitrage and Market Data

The broader market continued to exhibit volatility during the week and despite a fall at the end of the week managed to post a positive return snapping a four week losing streak. Although the economic recovery has recently slowed, jobs growth continued with the unemployment rate now down to 7.9%. However, the positive performance inspired by the past week’s economic data was placed in jeopardy on Friday with the president and first lady announced they had tested positive for Covid-19. Markets reacted negatively fearing the president may choose to impose greater restrictions on the reopening of the economy whilst some speculated this may help politicians agree on the latest stimulus bill. It remains to be seen how this scenario will effect the election to be held in a month’s time. Big tech led the decline on Friday with the Nasdaq dropping just over 2%. However, the weekly performance of the broader market in the U.S. as defined by the S&P 500 ETF (SPY) was higher by 1.57%.

The IQ ARB Merger Arbitrage ETF (MNA) demonstrated yet again why merger arbitrage can be a valuable addition to a diversified portfolio. The ETF produced another impressive return extending its winning run to four straight week. A significant rise in Netent assisted by the completion of the merger between Borg Warner (BWA) and Delphi Technologies (DLPH) were the main drivers of the positive performance in the MNA. (You can read our analysis of advantages and disadvantages of investing with the MNA ETF in the “Merger Arbitrage Trading Guide” section at the Merger Arbitrage Limited website). By the end of the week, MNA was showing a gain of 2.09%.

Product Weekly Change Product Weekly Change
T20 Index 0.60% SPY 1.57%
Index Dispersion 2.06% VIX 4.74%
Winners 13 MNA 2.09%
Losers 5 ARB.TO 0.67%
Week Ending Friday, October 2, 2020

Merger Arbitrage Portfolio Analysis

U.S.-based cash merger arbitrage spreads also posted an average increase during the week although not to the same extent as the broader market. Both the Momenta Pharmaceuticals and Principia Biopharma deals closed during the week enabling traders to free up some funds ready for redeployment. In addition, SINA (SINA) announced an increased offer from New Wave handing investors a bonus return. The original offer of $41 was raised to $43.30 which currently offers a simple spread of 1.95%. At the same time, new deals such as Perceptron (PRCP) were announced. As M&A activity continues to increase, we continue our increasingly optimistic view of merger arbitrage activity in the near future.

The T20 winners regained the upper hand and outpaced the losers by 13 to 5 with 0 non-movers. There were 18 spreads in the index last week as the index of cash merger arbitrage spreads is no longer calculated with a full complement of 20 deal constituents. The index of the largest cash merger arbitrage spreads as defined by improved by 0.60% whilst the dispersion of returns was 2.06%. This figure is significantly below both the 3-month average and the long-term look-back periods.

The T20 index of cash merger arbitrage spreads now offers an annualized average return of 13.66% which is lower than last week’s figure of 14.24%. This decrease in the potential average return is due to the rise in Fitbit as discussed above. However, the closing of two constituent deals and the addition of a new deal has helped keep the average return higher. For this coming week, the T20 portfolio has 19 deal constituents.

For additional merger arbitrage discussion and insight into this event-driven strategy be sure to catch our exclusive interview with Seeking Alpha “SA Interview: Merger Arbitrage Investing With Mal Spink, CFA.”

Merger arbitrage trading is not without risks. This strategy, although accessible to individuals as well as professionals, should be thoroughly understood BEFORE investment capital is put at risk. To assist the reader, “evergreen” content such as “how-to” & introductory guides, a reading list comprehensive Glossary and much more including a list of the largest cash merger arbitrage spreads currently available can be found at the Merger Arbitrage Limited website associated with the author of this article.

Disclosure: I am/we are long FIT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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