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These days merger arbitrage is a tale of two types. There are the deals with juicy spreads that seem to be a coin flip at best thanks to heightened regulatory scrutiny in the US and abroad. Then there are a host of deals which are very safe but which come with ultra low IRRs, especially considering what money markets and treasuries are currently paying. But nevertheless there are still some arbs worth buying in my opinion.
Each quarter I compile the top 10 stocks held in the funds that specialize in deal stocks and share it with our Seeking Alpha community.
My rules:
- I only count a stock if it is at least 1% of the fund’s portfolio.
- I only include stocks that are still actively trading.
- I only choose funds where the majority of positions are merger-related.
Horizon Therapeutics (HZNP) is in this quarter’s top spot. 23 of the 28 funds are holders of HZNP. Amgen (AMGN) is in the process of acquiring Horizon for $116.50 in cash. The deal is currently on a second request and the companies have guided to a close in the first half of the year. On Tuesday Amgen began talks with investors about a potential jumbo bond deal to help finance the merger.
For the third consecutive quarter, Activision Blizzard (ATVI) is in the top two. It is in 18 of the 28 funds. Microsoft (MSFT) is trying to buy Activision for $68.7 billion which is $95 per share in cash. There are major issues with this merger in the UK, the EU and the FTC has already sued to block the tie up. Still, Activision CEO Bobby Kotick remains bullish on the deal’s chances.
I think there’s no legitimately good reason why we shouldn’t have the opportunity to compete against Japanese and Chinese companies and I think regulators in the EU, the UK and the US will recognize that Western companies need to be able to compete
Top 10 Merger Arb Stocks Held By Funds
| 1) Horizon Therapeutics | Held by 23 funds | 19% IRR |
| 2) Activision Blizzard | Held by 18 funds | 50% IRR |
| 3) VMware (VMW) | Held by 14 funds | 81% IRR |
| 4) LHC Group (LHCG) | Held by 13 funds | 26% IRR |
| 5) Coupa Software (COUP) | Held by 12 funds | 10% IRR |
| 6) First Horizon Corporation (FHN) | Held by 11 funds | 12% IRR |
| 6) Atlas Air (AAWW) | Held by 11 funds | 28% IRR |
| 8) 1Life Healthcare (ONEM) | Held by 10 funds | 39% IRR |
| 8) Aerojet Rocketdyne Holdings (AJRD) | Held by 10 funds | 8% IRR |
| 10) Tower Semiconductor (TSEM) | Held by 9 funds | Closing unknown |
When a fund makes an M&A stock its number one holding, it signals strong conviction that the deal will ultimately close. Six funds had Horizon as its top pick as of the end of the 4th quarter.
Top Positions Among The 30 Funds
| Horizon Therapeutics | Top Position in 6 Funds |
| Activision Blizzard | Top Position in 3 Funds |
| First Horizon Corporation | Top Position in 3 Funds |
Some arb funds oversize the positions that they have great conviction in. As of the end of Q4, there were four positions of 19% or more in a single stock.
Oversized Holdings
| Horizon Therapeutics | 52% of a Fund |
| LHC Group | 48% of a Fund |
| Horizon Therapeutics | 26% of a Fund |
| Activision Blizzard | 19% of a Fund |
Conclusion
While there is no substitute for doing one’s own work and developing one’s unique trading/investing style, looking at what some of the top arb hedge funds are doing with their money is quite valuable. These funds have more resources, staff, and contacts that an individual investor can possibly have.
While there is no guarantee that the above deals will close, the fact is approximately 94 percent of all mergers do close and when the specialists allocate their money to an arb position the odds even get better.
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