What is Event-Driven Investing?
Event-Driven Investing is a strategy wherein investors capitalize on pricing inefficiencies caused by corporate events such as mergers, acquisitions, spin-offs, and bankruptcies.
Event-Driven Investing Overview
The event-driven strategy is oriented around investments that seek to exploit and profit from corporate events that can create pricing inefficiencies.
Such events include operational turnarounds, M&A activities (e.g. divestitures, spin-offs), and distressed scenarios.
Corporate events can often cause securities to be mispriced and exhibit substantial volatility, especially as the market digests the newly-announced news over time.
In particular, event-driven funds tend to thrive in situations of greater complexity, especially around M&A and niche sectors.
Types of Event-Driven Investing Strategies
- Merger arbitrage actively pursues M&A targets to purchase securities of companies subject to an acquisition or merger at a discount to the offer price, i.e. to trade the premium on announced acquisitions.
- The investments can be in the form of going long coupled with a short position, reliance on derivatives for downside risk protection, and more.
- Convertible arbitrage refers to profiting from pricing inefficiencies between an issuer’s convertible securities and its common stock.
- The strategy often pairs a long position in the convertible security with a short in the common equity.
- The term “special situations” encompasses a variety of anticipated corporate events, such as divestitures (e.g. spin-offs, split-ups, carve-outs).
- The securities of the underlying company could be purchased under the expectation of a long-term turnaround – or to profit from bets on events such as share buybacks, credit rating changes, regulatory/litigation announcements, and earnings reports.
- An activist investor attempts to be the catalyst for change in a company, which is typically underperforming and has fallen out of favor with the market.
- The active engagement of the investor and implementation of recommended corporate changes can lead to high returns.
- Distressed investors purchase steeply discounted securities, most often in the form of corporate bonds (e.g. debt-to-equity exchange in the post-restructuring entity).
- The returns stem from the company’s long-term turnaround as it emerges from distress (or finding capital structure discrepancies, e.g. unsecured bonds trading at too steep of a discount compared to secured senior debt).
Event-Driven Investing Performance
Certain event-driven strategies such as M&A arbitrage and distressed investing can perform well independent of economic conditions.
- M&A Arbitrage: Event-driven investing around M&A has historically performed well during periods of economic strength, as the number of opportunities (i.e. deal volume and count) is the highest, as well as the chance of purchase premiums.
- Distressed Investing: Conversely, distressed investing performs best in recessionary periods, as more companies become prone to financial distress.