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Jacob: Why do investors care about mergers and acquisitions and here's an even bigger question. Why should you care? Trust me when I say this, you can make explosive returns on a stock if you think the company is going to get bought out. Here's an analogy of how this works, followed by an explanation of how it actually works in the stock market. Stick with me. It's like when one animal eats another, yes, the animal getting eaten doesn't want to get eaten, but in markets you the prey want to get eaten. If you're a shareholder in a company that's going to get bought out, you want to get eaten by the predator or in stock market terms, the buyer, hopefully this acquisition is a friendly one because some are actually known as hostile takeovers. That's a different story. The Predator gobbles up the prey in order to become bigger and stronger but in finance, the prey makes a lot of money.

Okay, here's how that actually plays out in the market. If a company is going to be bought out and we'll say 100% of the equity will be bought - the buyout will usually happen at a premium to the market price of the company. If you're a shareholder in company x corporate buyer, company Y is buying your shares at a price above where the share price is trading in the public market. If the market has a strong belief this buyout will actually happen, Who wouldn't want to buy that stock? Now there's more demand for the stock than there is supply. The price will get bid up, but usually it won't go above the offer price from the buyer. Why would you buy a stock at a price higher than what you'll receive from the buyer? Remember buy low, sell high?

By the way, if you bought early, so before investors started betting on the acquisition, you could just sell after the price runs up. It doesn't matter if the corporate buyer buys your shares or some other market participant does. Just take your profits and walk away. What if the deal doesn't happen? Get out of the stock before it gets back to the original price. Pre-deal speculation. Woo. That's a lot of stuff. Look, it's just numbers. Here's quick math to help you understand. You bought shares in x at a hundred a share. Company Y wants to buy X at a 20% premium, meaning it'll buy X at $120 a share. Oh my God, this is exciting. Why is going to buy your shares at $120 a pop? The price goes up to $118 because investors anticipate this beautiful payout. News comes out that the deal may not happen after all. Quick! Sell before the price falls, you sell at $188, your profit was $118 minus $100 is 18% you made 18% returns. Congrats! Now, just get good at identifying companies right for a buyout.

Why do investors care about mergers and acquisitions?

And here's an even bigger question: Why should you care?

We break it all down in our TheStreet Explains series.

Well, for starters, you can make explosive returns on a stock if you think the company is going to get bought out.

Here's an analogy of how this works. 

It's like when one animal eats another.

Yes, the animal getting eaten doesn't want to get eaten, but in markets, you - the prey - want to get eaten. If you're a shareholder in a company that's going to get bought out, you want to get eaten by the predator, or in stock market terms, the buyer.

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Hopefully this acquisition is a friendly one because some are actually known as hostile takeovers.

The predator gobbles up the prey in order to become bigger and stronger. But in finance, the "prey" makes a lot of money.

Want to see how this analogy works when compared to M&A in real terms? Watch the video above.  

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