Merger Arb ETF Debuts

By Michael Johnston, founder of ETF Database

IndexIQ, the ETF issuer behind the first hedge fund ETFs, has brought its fifth exchange-traded product to market, the IQ ARB Merger Arbitrage ETF. The fund began trading Tuesday on the NYSE Arca Exchange under the clever ticker MNA.

The new ETF will track the IQ ARB Merger Arbitrage Index, a benchmark that includes global companies for which there has been a public announcement of a takeover by an acquirer. The index also includes short exposure to global equities as a partial equity market hedge.

Even after a deal is announced, most publicly traded target companies generally trade at a discount to the stated offer price, reflecting some degree of uncertainty that the deal will ultimately close. While the vast majority of announced transactions are ultimately consummated, it is not unheard of for regulatory hurdles, lawsuits, and financing issues to derail deals.

Merger arbitrage strategies are nothing new, but MNA represents the first time such tactics are being made widely available through the ETF structure. Merger arbitrage seeks to generate gains by purchasing stocks of takeover targets for less than the announced transaction price.

By holding these investments until the transaction closes, investors can pocket the difference. It sounds like a sound investment play and has the potential to deliver solid returns. But the merger arbitrage strategy comes with commensurate risk. If the deal closes, a profit can be made. But if the deal falls through, investors can be left holding the bag.

As of Nov. 16, the IQ ARB Index included significant allocations to:
  • Starent Networks (STAR) (8.7%): Provider of core technology that enables mobile operators to deliver mobile broadband services. In October, Starent agreed to be acquired by Cisco Systems (CSCO) for $35 per share.
  • BJ Services (BJ) (8.3%): Provides fracturing services for major shale oil and gas operators. In August, Baker Hughes (BHI) announced it would acquire BJ Services for $5.5 billion.
  • Sun Microsystems (JAVA) (7.9%): Vendor of computers, components, and IT services. In April, Sun agreed to be acquired by Oracle (ORCL).

MNA is the third ETF launched by IndexIQ in the last month, joining two funds aimed at combating inflation, the IQ ARB Global Resources ETF ( GRES) and CPI Inflation Hedged ETF ( CPI). Future fund launches could include a 130/30 ETF, as the issuer recently took the first step towards bringing a long/short product to markets.

Michael Johnston is the senior analyst and founder of ETF Database, a Web-based investment resource providing actionable ETF investment ideas and an ETF Screener for investors analyzing potential ETF investments. Johnston oversees ETF Database's free ETF Newsletter, one of the most popular sources for news and commentary focusing exclusively on the exchange-traded fund industry. Johnston also maintains and develops content for ETFdb Pro, a line of analyst reports and model portfolios designed to help investors utilize ETFs to meet their investment goals.

Johnston has completed the Chartered Financial Analyst (CFA) program, and obtained his bachelor's degree in finance from the University of Notre Dame. Prior to founding ETF Database, Michael worked in a private client service group performing valuations of companies operating in a wide range of industries.

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