The cautious move toward monetary normalization led by several central banks did not throw a tantrum on markets.....
30 oct 2017 - By Lyxor Cross Asset Research - The Weekly Brief
Jean-Baptiste Berthon Senior Strategist, Cross Asset Research Lyxor Asset Management
They find support from economic prints flashing green and a much healthier load of earnings announcements since last week. The election in Japan also helped, as well as the Chinese party congress. The absence of major shifts in Chinese policies, and a focus on quality and equality rather than quantity strengthen the case for a soft landing.
Asset returns were regionally uneven. Uncertainties regarding the magnitude of tax-cuts and the next Fed chair stalled the US momentum while pushing US rates and dollar up. It boosted European and Japanese equities and cyclical commodities. EM markets reflected mild profit-taking after the Chinese congress.
Most hedge fund strategies remained in positive territories. Global Macro led the pack, benefitting from their short European bonds and from their positions in Japanese FX and equities.
We focus on Merger funds this week. The Lyxor Merger index is up +7% year-to-date. While deal spreads tightened until the summer, they widened since then. Remarkably, Merger funds remained immune.
Since the end of last year, the perception of merger risk receded. The number of deals motivated by an inversion objective dried out and very few operations broke out (less than 2%). In parallel, prospects of foreign earning repatriation and improving corporate profits maintained an attractive relative carry vs. credit or yields, with limited duration risk (M&A deal rarely last more than a year). This lured a number of non-merger specialists in the space.
As a result, a growing number of operations became priced for perfection with several months still running before completion. They were vulnerable to any surprise in earnings or a change of tone in antitrust regulators.
Instead, merger specialists focused on the most complex deals, which offer bidding war prospects and higher spreads. They also became more tactical on the richly priced mainstream operations, being short when the risk asymmetry reached a climax. We believe that this strategy should be run by experts, with prior legal reviews and careful valuation analysis. We maintain our OW on the strategy.