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Can someone help me understand: If the deal has been announced at $13.65 why are shares still trading lower?

by coob 14y ago

tvladeck 14y ago
Because there is a small chance that the deal will not close. So the shares today are worth close to that, but not quite.
wtvanhest 14y ago
The deal is not guaranteed to close. Merger Arbitrage funds help support the price, but most stock holders are happy exiting with the upside they just gained while not risking a few pennies per share on the possibility of the deal not closing. This is common price action during M&A.
JumpCrisscross 14y ago
(1) Time value of money. Shareholders aren't getting $13.65 today. If DELL traded at $13.65, I could short it and earn a risk-free yield on the short proceeds between now and when the payout is made. (2) Merger risk. Did I say risk-free? I lied. Deals fall apart for reasons ranging from shareholder litigation to antitrust issues to Michael Dell getting pissed off because his socks got wet. The difference between the forward stock price (stock minus time value) and payout is the expected probability of the deal closing. Disclaimer: I have an outstanding position in DELL.
- bluedevil2k 14y ago
  What?? If you short it at today's price of $13.39 and then are forced to buy it to cover your short at $13.65, you're going to lose money.
  - RockyMcNuts 14y ago
    indeed, lolwut? where can you earn a 'risk-free yield' on anything? 6-month T-bills at 0.11%. merger risk goes both ways, stockholders could ask for more money, balk at tendering shares in the deal, take it to court.
  - JumpCrisscross 14y ago
    I was illustrating, by negation, why a $13.65 buy-out shouldn't immediately lead to the stock rising to $13.65 (because it would produce an arbitrage opportunity). Note that today the stock did get bid up to $13.48. If the deal takes {90, 180, 270, 360} days to pay out, you would be borrowing from the market at {5.2%, 2.6%, 1.7%, 1.3%}. Add to that the cost of a call (to protect you from a rival bidder or enhanced tender) and subtract the probability of the deal falling through and you have a cost of capital. This isn't risk-free since 13.48 != 13.65, but depending on your time horizon, break-up assumptions, and the asset you're buying with the financing, it could still be an attractive proposition.
bluedevil2k 14y ago
To explain the Merger Arbitrage a little more with actual numbers. If you're a Dell shareholder today, you can sell the shares right now at $13.38. This is a $0.27 discount (2.0%) to the agreed upon buy-out price. The shareholders today are willing to give up that 2% in additional gain, because the risk to them is that the sale falls through, and the price of DELL will fall back to the pre-buyout price of around $9.97 (early January price). That would be a 25% loss. Giving up the potential for 2% in gains in exchange for eliminating the risk of 25% loss? A good investment for most average investors. Why do the institutional investors make this bet - they have advantages that average investors don't. Leverage (they're making this bet with other people's money), options (limited downside risk), or the skeptic may even say, insider information.

Can someone help me understand: If the deal has been announced at $13.65 why are shares still trading lower?

by coob 14y ago

Can someone help me understand: If the deal has been announced at $13.65 why are shares still trading lower?

Because there is a small chance that the deal will not close. So the shares today are worth close to that, but not quite.

wtvanhest 14y ago

The deal is not guaranteed to close. Merger Arbitrage funds help support the price, but most stock holders are happy exiting with the upside they just gained while not risking a few pennies per share on the possibility of the deal not closing. This is common price action during M&A.

JumpCrisscross 14y ago

(1) Time value of money. Shareholders aren't getting $13.65 today. If DELL traded at $13.65, I could short it and earn a risk-free yield on the short proceeds between now and when the payout is made. (2) Merger risk. Did I say risk-free? I lied. Deals fall apart for reasons ranging from shareholder litigation to antitrust issues to Michael Dell getting pissed off because his socks got wet. The difference between the forward stock price (stock minus time value) and payout is the expected probability of the deal closing. Disclaimer: I have an outstanding position in DELL.

bluedevil2k 14y ago
What?? If you short it at today's price of $13.39 and then are forced to buy it to cover your short at $13.65, you're going to lose money.
- RockyMcNuts 14y ago
  indeed, lolwut? where can you earn a 'risk-free yield' on anything? 6-month T-bills at 0.11%. merger risk goes both ways, stockholders could ask for more money, balk at tendering shares in the deal, take it to court.
- JumpCrisscross 14y ago
  I was illustrating, by negation, why a $13.65 buy-out shouldn't immediately lead to the stock rising to $13.65 (because it would produce an arbitrage opportunity). Note that today the stock did get bid up to $13.48. If the deal takes {90, 180, 270, 360} days to pay out, you would be borrowing from the market at {5.2%, 2.6%, 1.7%, 1.3%}. Add to that the cost of a call (to protect you from a rival bidder or enhanced tender) and subtract the probability of the deal falling through and you have a cost of capital. This isn't risk-free since 13.48 != 13.65, but depending on your time horizon, break-up assumptions, and the asset you're buying with the financing, it could still be an attractive proposition.

bluedevil2k 14y ago

To explain the Merger Arbitrage a little more with actual numbers. If you're a Dell shareholder today, you can sell the shares right now at $13.38. This is a $0.27 discount (2.0%) to the agreed upon buy-out price. The shareholders today are willing to give up that 2% in additional gain, because the risk to them is that the sale falls through, and the price of DELL will fall back to the pre-buyout price of around $9.97 (early January price). That would be a 25% loss. Giving up the potential for 2% in gains in exchange for eliminating the risk of 25% loss? A good investment for most average investors. Why do the institutional investors make this bet - they have advantages that average investors don't. Leverage (they're making this bet with other people's money), options (limited downside risk), or the skeptic may even say, insider information.