Stabilizing Interest Rates Can Set the Stage for a Merger Surge

Jason Hill

Summary Points:

• By pursuing absolute returns that are largely uncorrelated to equity and fixed income markets, we believe CMRGX provides a compelling way to combat equity market and interest rate volatility.
• Our team’s extensive experience with arbitrage strategies gives us a potential edge in public acquisitions where we can utilize convertible bonds, liquid options, or other securities within a merger target’s capital structure.
• The current regulatory environment, although volatile, provides ample opportunities for our merger arbitrage strategy.

As investors know all too well, diversification strategies built exclusively around traditional stock and fixed income funds are not failsafe asset allocation approaches. To address the challenges of an environment that we believe increasingly warrants enhanced diversification (e.g., liquid alternative strategies), Calamos recently introduced Calamos Merger Arbitrage Fund (CMRGX).

The Mechanics Behind Merger Arbitrage Opportunity

When mergers between companies are announced, there’s typically uncertainty around the consummation of the deal and the timeline of the merger’s completion. As a result, the stock price of the acquisition target is normally lower than the announced acquisition price. Our team seeks to provide absolute returns that are largely uncorrelated to equity and fixed income markets by taking advantage of dislocations between potential and proposed merger-and-acquisition deal prices and where companies’ stocks are publicly trading before the deals are completed.

The Calamos Edge: Experience and Proprietary Research

We can go about capturing this arbitrage spread in a variety of ways, and we believe our decades of experience with comprehensive capital structure research gives us an edge in altering risk/reward through different securities and trade structures. In some situations, equities provide what we believe are the most attractive opportunities, and in other instances, we will choose convertible bonds or other fixed income securities. Liquid options provide additional tools for tailoring risk/reward.

We believe CMRGX is well positioned to take advantage of the merger landscape. As of the close of the reporting period, CMRGX held securities associated with 33 deals or potential deals. Equities made up 57% of the securities in the fund, followed by convertible securities and high yield at 37%, and options at 6%. We have used fixed income and options positions to manage downside risk, and we believe these positions can continue to provide valuable benefits.

CMRGX: Finding Opportunities across Target’s Capital Structures

The portfolio is actively managed and subject to change daily without notice.

Finding Opportunity in Fluid and Even Volatile Conditions

We are always mindful of the political and regulatory backdrop. As it relates to mergers, the Biden Administration has taken a more holistic approach to identifying harms, which has played out through government agencies making additional requests for information and through lawsuits trying to block deals that in the past might not have garnered scrutiny. Although this has made for a bumpier ride, the volatility has provided us with opportunities to make money.

That said, a tighter regulatory environment and a volatile interest rate world have negatively impacted the quantity of deals in our universe, which is typically US targets with market caps of more than $500 million. However, we believe there is substantial pent-up demand among companies that are ready to sign deals once rates settle down. We expect significant activity when rates simply stabilize; in our opinion, they don’t even have to fall to create a tailwind for a ramp-up in merger activity.