Merger & Acquisitions Arbitrageurs' Risks - Dissertation Example

One of the reasons for this negative image among the people might be the infamous insider trading scandal involving Ivan Boesky. In reality, however, most of them make a profit by not violating the laws. Generally, the way merger & acquisitions arbitrageurs make a profit is by rising insurance is against the deals which have failed, for the target shareholders.  The image of merger & acquisitions arbitrageurs is slowly changing nowadays and they are widely recognized as indispensable role players in the merger and acquisition processes.

One of the surprising parts of M & A arbitrageurs is, however, the fact that they often make more profits than the market risks that they usually bear. To be precise, M & A arbitrageurs charge very high premiums as an insurance company. Earlier, literature commented that M & A arbitrageurs should have only borne the market risk since they usually had the portfolio of unrelated deals. However now, the number of researchers and scholars believe that the idiosyncratic part of their risk should not be diversified, since the number of deals in which can make a diversified portfolio is often short and therefore the limitation of deals makes it impossible for the idiosyncratic part of the risk to be diversified away.

The estimation of the market of the real risk determines the speculative spread. What’s more, than the characteristics sometimes also affect the speculative spread. A speculative spread is also considered to be one of the main sources of the profit of arbitrageurs. Guy Wyser-Pratte (2009, p.160) states ‘The activity of arbitrageurs moving in and out of these situations produces certain other phenomena in the marketplace; e.g., post-merger selling pressure, exchange offer pressures, tax reversals, and “swap’’ arrangements.

All of these leave special traces in the marketplace. Arbitrageurs are able to reap handsome profits because of their ability to commit large amounts of capital to a highly diversified portfolio for risk arbitrage situations. They particularly benefit from low capital requirements to finance these positions, and from their membership in the Arbitrage Community. Lacking any of the above requisites, the private and institutional investor is advised to invest not in deals, but insecurities! But there are yet for the investing public and institutions some alternatives to total avoidance of involvement in risk arbitrage.

Every proposed merger, tender offer, or recapitalization involves the issuance of existing or new classes of securities. In practically every one of these, there will sooner or later be a spread, the existence of which can be translated into a discount.’ The speculative spread is also strongly connected with the liquidity conditions in the market. Sometimes, idiosyncratic risks also have an interaction with systematic liquidity risk, thereby affecting the total risk and return of the arbitrageur.

It is very important to consider the interplay between systematic liquidity risk and idiosyncratic risk since the profits of merger & acquisitions arbitrageurs are often determined by them.