UK Evidence on the Profitability and the Risk-Return Characteristics of Merger Arbitrage

On a sample of 1105 UK cash and stock mergers over the period of 1987-2007, this study is the first to provide empirical evidence about the profitability and the risk-return characteristic of the merger arbitrage strategy in the UK market. Consistent with the findings in other markets, the UK merger arbitrage portfolios are profitable on risk-adjusted basis. The result is robust to a range of methods to control for risk. The most important contribution of this study is to show how takeover regulations can affect the risk-return characteristics of the merger arbitrage strategy. There is little evidence that the UK merger arbitrage portfolios exhibit any non-linear risk-return pattern. The finding is in line with restrictions imposed by the UK Takeover Code on the bidder's ability to renege on the bid. Combined with the US and Australian evidence under varying degree of such restrictions in these respective jurisdictions, the regulation impact is confirmed.