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Risk Arbitrage

In: Business and Management

Submitted By tayyab007
Words 564
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Characteristics of risk and return in risk arbitrage
Purpose of this paper is to analyze 4750 mergers from 1963 to 1998 to characterize the risk and return in risk arbitrage.
After the announcement of a merger or acquisition the target company stock typically trade at discount to the price offered by the acquiring company. The difference is known as arbitrage spread, called merge arbitrage referred to an investment strategy making profit from this spread. If merger is successful the arbitrageur will capture the arbitrage spread, if not he will lose money. Previous papers have concluded with that investors make money from this strategy. These finding suggest that financial market are not efficient in the pricing of firms. There are other to explanations one is that transaction and other practical limitations prevent investors from realizing these extraordinary returns. The second it that risk arbitrageurs receive a risk premium to compensate the risk of deal failure.
Effect of transaction cost
Construct to different series of risk arbitrage returns. The first series is calendar time value weighted average of return to individual mergers ignoring transaction cost and other practical limits. The second portfolio return series mimics the return from hypothetical risk arbitrage index manager. It includes transaction cost, consisting both broker commission and price impact associated with trading less than perfectly liquid securities. And include also practical constraint. When the included transaction cost the annually alpha was reduced from 9,25 percent to 3,54 percent .
The second possible explanations it that its compensation for bearing the extraordinary risk. They have concluded that capm doesn’t not fully capture the risk associated with tender offer investment In this paper the investigate whether the reason that linear asset pricing models fails to capture…...

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