Relative strength of the U.S. dollar is expected to continue, propelled by the Federal Reserve’s determination to combat inflation by tightening monetary policy.
The dollar’s strength has been a headache for U.S. multinational corporations, whose revenues earned in other countries are worth less in dollar terms after currency translation. U.S. companies report earnings in the local currency.
But this dynamic has also created a unique opportunity. Like U.S. vacationers landing in Europe suddenly armed with more purchase power, overseas companies now look mighty cheap to U.S. companies looking to make acquisitions.
The dollar has risen around 20 percent year-to-date against the British pound (GBP). It is up around 16 percent against the euro (EUR), and its nearly 30 percent gain against the Japanese yen (JPY) is even more pronounced. This means any acquisition in those markets is suddenly massively discounted compared to the beginning of the year—everything else being equal.
Traders expect this foreign exchange trend to continue. According to data from the U.S. Commodity Futures Trading Commission, investors are placing more wagers on the U.S. dollar to make advances against currencies such as the yen, the euro, and the Canadian dollar.
‘Haven’ Asset
The U.S. dollar is further boosted by its status as a “haven” asset during times of distress, with global investors pouring into U.S. assets due to America’s relative economic stability.This has created a divergency across global interest rates after more than a decade of lockstep rate cuts.
With this fact pattern established, it’s no wonder that U.S. firms are gearing up to spend.
“Everything in the UK is on sale,” declared Blair Jacobson, co-head of European credit at U.S. private equity giant Ares Management, in a Financial Times event in London on Oct. 12.
Jon Gray, the president and COO of Blackstone, echoed the same sentiment about UK assets in a recent interview with MarketWatch.
Private equity executives singled out the UK because of the country’s recent turmoil—PM Liz Truss’s controversial tax cuts and resignation—but the same sentiment also applies broadly to Europe and Asia.
Hedge funds are betting on a wave of merger activity as U.S. corporations and private equity funds prepare to go shopping abroad.
The so-called “merger arbitrage” or “event-driven” hedge funds are preparing to place more bets on deals closing, a recent Financial Times report wrote. These funds tend to make bets on companies after merger and acquisition (M&A) deals are announced and take a position on whether these deals would ultimately close, taking a view on specific regulatory, governance, and competing bid risks. They can also bet on companies they speculate would be candidates for takeover.
Hedge fund managers such as AQR, Millennium Management, Cheyne Capital, and Balyasny Asset Management all run event-driven funds. There are also mutual funds that specialize in event-driven and merger arb strategies such as the BlackRock Event Driven Equity (BALPX), Gabelli ABC Fund (GABCX), and The Arbitrage Fund (ARBFX).
These funds tend to be volatile, and performance is dependent on the competency and know-how of the portfolio managers. The Financial Times stated that through nine months of 2022, merger arb funds are up 0.7 percent on average, a paltry amount during normal times but significantly better than the deeply negative performance of the broader S&P 500 this year.
One very public and dragged-out M&A deal this year has been billionaire Elon Musk’s takeover attempt of Twitter. The Musk-Twitter deal has been an especially bumpy roller-coaster ride, dragging Twitter’s share price up and down over the last several months, and ultimately proving to be a profitable trade for investors making the right calls.
During times of macro uncertainty, investors could be wise to take a view on specific micro-events.
