Additional content provided by Michael McClain, AVP, Research.

While LPL Research remains constructive on Global Macro, Managed Futures, and Multi-Strategy liquid alternative investment strategies for 2024, we want to highlight the Event-Driven market and developments we’ll be closely monitoring this year. 

Strategy Overview 

Event-Driven strategies take long and short positions in equities, bonds, and their derivatives based on corporate events such as mergers and acquisitions (M&A), spin-offs, management restructuring, and special situations such as bankruptcies. Merger arbitrage is the most familiar example of Event-Driven investing, however, distressed and activism are also common investment strategies — albeit those that involve a longer investment time horizon and more active involvement on the part of an investment firm. 

A straightforward merger arbitrage investment would involve buying a target company’s stock following the announcement of an acquisition. The target stock typically increases in value to a level slightly below the buyout price. This discount to deal price, called the “deal spread” represents the uncertainty (regulatory, financing, shareholder approval) surrounding whether the transaction is completed or not.   

Recent Environment 

Over the past several years, Event-Driven strategies have faced several headwinds, starting with pandemic-induced uncertainty, and followed up with the fastest pace of Federal Reserve rate hikes in over 40 years. Looking ahead, we’re considering a variety of factors to gauge industry health. 

• Regulatory and the ever-present and closely related political uncertainty have several issues to watch, beginning with the November elections. If markets begin to price in less regulatory risk going forward, it may lead to a pick-up in corporate transactions. However, regardless of the election outcome, antitrust merger cases brought to court by the Federal Trade Commission (FTC) have seen a series of high-profile losses under Chair Lina Khan. So, while announced deals have been winning in court at a record pace, removing the potential for any litigation in a more regulatory-friendly environment may spur additional deal flow.  
• Size of Investable Universe — Announced M&A volume has steadily declined over the past two years, however, currently M&A has several tailwinds supporting a potential rebound. 
  • As measured by the CEO Confidence Index, corporate leaders have become increasingly optimistic about the market’s backdrop. The most recent measure improved to 53 in February 2024, up from 46 in Q4 2023. Any reading above 50 reflects more positive than negative survey responses.  
  • Additionally, and what has been a known feature of the market for several years now, private equity firms continue to sit on an ever-growing pile of dry powder. While this capital has only been added to over the years and failed to be a meaningful source of new deal volume, its presence and potential remain a positive feature of the market environment.  

Historical Deal Volume

Global M&A volume (in trillions $)

Source: LPL Research, Dealogic 12/20/23

Capital Available for Deployment

Global private equity dry powder (in trillions $)

Source: LPL Research, S&P Global Market Intelligence 12/01/23

• Interest Rate Levels — The level and expected future path of interest rates has historically had a significant impact on the industry. A lower level of rates reduces financing costs for potential buyers and encourages more deal flow. Higher rates often lead to larger deal spreads and a more robust return environment for investors. The deal spread is the sum of the previously mentioned risk of deal failure and a risk-free rate that corresponds to the time value of money between when a deal is announced and when it’s finalized. Assuming deal risk is static, a higher risk-free rate will increase deal spreads and the potential return profile.   

Key Takeaways 

• Event-Driven strategies face existing headwinds, however, may benefit from a more predictable regulatory environment, an increase in deal flow, and clarity on the path of interest rates.  
• After several years of subdued activity, private equity-led deals may act as catalysts to spark a more robust market environment. Private equity funds sit on an ever-growing pile of dry powder, with many of the larger sponsors looking to raise their next fund.  
• Regardless of what develops this year, Event-Driven investing remains an attractive low-beta, diversifying investment strategy that is often used to complement traditional fixed income allocations.