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Merger Arbitrage in a Rising-Rate Environment

Merger Arbitrage in a Rising-Rate Environment

Investors looking to invest in investments that are well-positioned for inflationary or higher interest rate environments may want to consider a merger arbitrage strategy.

The Federal Reserve released a statement Wednesday, stating that short-term interest rate were not expected to change but they would remain steady. Mid-March signalling intentions to raise themHere is the latest update regarding plans to reduce stimulus to lower high levels of inflation.

Investors have been focusing on inflation for months. December’s Consumer Price Index reading was 7% higher than the previous year, which is the highest increase since the early 1980s.

Historical data shows that merger arbitrage index returns have performed better during periods of inflation. This is due to the fact higher inflation tends lead to higher rates and higher rates tends to increase the merger arbitrage spread.

The Merger Fund MERFXVirtus affiliate Westchester Capital Management manages a mutual fund that is exclusively dedicated to merger arbitrage. This fund has historically outperformed bonds when rates are rising.

The Bloomberg U.S. Since 1989, Aggregate Bond Index has experienced 28 quarters of negative performance. The fund (at NAV), outperformed Bloomberg U.S. 96% of the times. Data from Morningstar and Westchester show that Aggregate Bond Index has outperformed the Bloomberg U.S.

This trend has been observed in three instances over the past decade.

The segment ran from August 2020 to September 2021. MERFXs annualized results were 2.82%. This was compared to taxable bonds and tax-exempt bonds that saw annualized returns between -0.66% to 1.57%, according to Morningstar.

From June 2016 to the end of 2018, MERFX experienced 4.75% annualized returns. This compares to taxable and exempt bonds, which had annualized returns of 0.37%, 0.92%, respectively, according Morningstar and Westchester.

During the period of July 2012 through the end of 2013, MERFX saw annualized returns of 4.04%, compared to taxable and tax-exempt bonds’ annualized returns of -0.17% and 0.81%, respectively, according to Morningstar and Westchester.

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The same trend has been observed in the past periods of rising rates, such as August 2010 through March 2011, December 2009 through March 2010, and many other earlier decades.

MERFX also offers diversification. Deal risk is not as high as that of conventional asset classes. Adding a merger arbitrage strategy may help to diversify your portfolio.

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