M&A (Mergers and Acquisitions) - now the major impetus for the stock market - is not showing any sign of slowing down. This is primarily thanks to low interest rates, cheap borrowing cost, healthy cash reserves, hunt for higher growth and a strong dollar.
According to the latest data released by Dealogic, the value of M&A across the globe rose 23% year over year in the first quarter of this year to $902.2 billion. This marks the most energetic start and the highest in eight years when the value reached $1.08 trillion. The U.S. made the largest first-quarter deals since 2007, making up for nearly 46% of the value while Europe accounted for 24% of the deal value with the best first quarter since 2011.
In terms of sectors, healthcare led the way in the global M&A space with a $126.5 billion deal value, closely followed by $113 billion for real estate, and $84.3 billion for technology. In fact, $10 billion plus mega deals totaled 14, the highest number since 1Q 2006.
Some Hot Brewing Deals
The largest and hottest deal announced in the first quarter was the $45.4 billion takeover of the U.S. packaged food giant Kraft Foods Group (KRFT) by the ketchup maker H.J. Heinz. The transaction will create North America's third-largest food and beverage company and the fifth largest food and beverage company in the world with annual revenue in excess of $28 billion. The merger, pending approval from Kraft shareholders and regulatory bodies, is expected to close in the second half of the year.
Sizzling deals were also announced in the healthcare space with the largest being the AbbVie (NYSE:ABBV) bid to acquire Pharmacyclics (NASDAQ:PCYC) for nearly $21 billion. AbbVie expects to finance the deal using a combination of existing cash, new debt and stock. The deal is expected to close in mid 2015. The other two large deals were the $17-billion Pfizer (NYSE:PFE) offer to buy Hospira (NYSE:HSP) and the $15.9-billion takeover of Salix Pharmaceuticals (NASDAQ:SLXP) by Valeant Pharmaceuticals (VRX).
Meanwhile, the largest U.S. health insurer UnitedHealth Group (NYSE:UNH) agreed to merge with the fourth-largest U.S. pharmacy-benefit management company, Catamaran Corp. (NASDAQ:CTRX), for $13.4 billion, including debt. The transaction, pending approvals from Catamaran shareholders and regulators, is expected to close in the fourth quarter of 2015.
Apart from these, NXP Semiconductors (NASDAQ:NXPI) agreed to merge with the smaller peer Freescale Semiconductor (NYSE:FSL) in the semiconductor corner of the broad technology space for $11.8 billion in cash and stock. The total value of the deal is $16.7 billion, including debt. The merged entity will have an enterprise value of over $40 billion and annual revenues of over $10 billion, and would be the world's eighth-largest chipmaker.
How to Tap?
Investors could easily take advantage of this surge in deals by either employing the merger arbitrage strategy to their portfolio or investing in some M&A advisory firms that reap huge revenues.
Merger Arbitrage Strategy
This strategy looks to tap the price differential (or spread) between the stock price of the target company after the public announcement of its proposed acquisition and the price offered by the acquirer to pay for the stocks of the target company. This is especially true given that investors should go long on the target or acquired company and short on the acquiring company. When the deal is completed, shares of the target company will increase to the full deal price (in some cases slightly below the deal price), giving investors a nice profit.
While investors could capitalize on merger arbitrage by trading in a particular target stock, the ETFs provide diversified exposure in the basket form with lower risk. The most popular ETF in this space - IQ ARB Merger Arbitrage ETF (NYSEARCA:MNA) - is worth considering. The fund offers capital appreciation by investing in global companies for which there have been public announcements of takeovers while at the same time provides short exposure to global equities as a partial equity market hedge. This is done by tracking the IQ Merger Arbitrage Index.
Holding 67 securities in its basket, the fund allocates higher to Morgan Stanley ILF/TREAS/INST and KRFT on the long side, making up for over one-fifth of the share. The product has amassed $112.9 million in its asset base and trades in average volume of less than 32,000 shares a day. Expense ratio came in at 76 basis points a year. The ETF has added about 3.6% in the year to date time frame.
While investors have a couple of more options in this space - Credit Suisse Merger Arbitrage Liquid Index ETN (NYSEARCA:CSMA) and ProShares Merger ETF (BATS:MRGR) - they have failed to garner enough investors' interest, gathering just $6.7 million and $5.5 million in AUM, respectively. Further, both funds are illiquid, increasing their total cost of trading in the form of a wide bid/ask spread beyond the expense ratio of 0.55% and 0.75%, respectively. CSMA is almost flat so far in the year while MRGR added nearly 1.9%.
Wall Street banks have been the biggest beneficiaries of heightened merger activity. Goldman Sachs (NYSE:GS) led the way higher in the lucrative M&A advisory business, followed by JPMorgan (NYSE:JPM) and Morgan Stanley (NYSE:MS). These have gained $752 million, $466 million, and $404 million, respectively, in revenues from deals advisory in Q1.
The trio has a Zacks Rank #3 (Hold) and are scheduled to report earnings in the next two weeks.