Risk and return of the merger arbitrage strategy in the European market

Abstract

In this thesis we have created a European merger arbitrage index consisting of 786 cash, stock, and combination deals from 2000 to 2022. Three portfolios have been created; equaly-weighted, value-weighted, and a practitioner portfolio. The portfolios have been benchmarked against CAPM, Fama and French’s (1993, 2015) three- and five-factor model. The monthly excess risk-adjusted returns range between 1.15% and 2.33%, while the market beta is between 0.1945 and 0.3843. Both alphas and market betas are statistically significant at any conventional levels. This implies that merger arbitrage is not a market-neutral strategy. A piecewise linear regression has also been conducted. We found some evidence suggesting that the strategy becomes highly correlated with the market during downturns, with a market beta between 1.1 and 1.56 while maintaining a market beta of 0.175 to 0.304 the rest of the time.