Risk Arbitrage and the Information Content of Hedge Fund Trading

Abstract:     
We study the implementation of risk (or merger) arbitrage by hedge funds and other institutional arbitrageurs and document the increasing role of hedge funds in the takeover process. Using institutional arbitrageurs’ reported portfolio holdings, we find evidence of superior performance by hedge fund arbitrageurs compared to non-hedge fund institutional arbitrageurs. Specifically, within the context of merger arbitrage, hedge funds significantly outperform other institutional arbitrageurs by 4% annually on a risk-adjusted basis. The superior performance does not reflect hedge fund managers’ ability to predict or affect the outcome of merger and acquisition deals; rather, our findings suggest that it is attributed to hedge fund managers’ ability to avoid deals with the largest downside when offer deals are withdrawn. Hedge fund and non-hedge fund investments in target shares are both associated with a higher probability of deal completion and shorter deal duration.

Number of Pages in PDF File: 46

Keywords: Hedge fund holdings, risk arbitrageur, mergers and acquisitions

JEL Classification: G23, G34

working papers series