Merger arbitrage can provide attractive diversification benefits alongside credit-oriented strategies within an absolute return portfolio, according to alternative investment firm Davidson Kempner.
A white paper published by the firm said the combination of investment strategies can result in managers having a greater ability to be opportunistic during times of spread dislocation.
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Merger arbitrage is based on a listed company’s share price discrepancy when being merged or acquired, with merger arbitrage funds profiting from changes in the share price ahead of the deal’s closing.
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“We believe the ability to generate attractive returns on complex transactions that are difficult to underwrite, while benefiting from the liquidity to actively reposition throughout the life of a deal, is a distinguishing characteristic of merger arbitrage,” Davidson Kempner said.
“In our view, this combination makes the strategy particularly complementary to less liquid credit investments within a multi-strategy portfolio.”
The paper noted merger arbitrage’s appeal lies in its mixture of yield characteristics of fixed income with idiosyncratic, event-driven return catalysts, while generally offering greater liquidity and shorter duration than credit instruments with comparable yields.
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