Opportunities In Complex M&A Deals
Beyond equities, we believe the favorable drivers of M&A activity are likely to remain in place. Given the broad trend of limited top-line growth and elevated margins among U.S. companies, M&A deals will likely remain an attractive option to drive earnings through increased scale and/or reducing costs. From our perspective, the most interesting deals will likely remain those that are complex in nature and where regulatory risk is perceived as significant, thereby creating attractive spread opportunities. We will continue to seek to use merger arbitrage positions constructed solely to benefit from deal completion, as well as investments—in one or both of the companies involved in a deal—to benefit from the spread between the actual trading price of the target company and the offer price, as well as possible value creation once the deal is completed.
Distressed debt remains a difficult market for us to find compelling new opportunities in, as the persistence of low interest rates has kept credit widely available. Based on the consensus views for modest U.S. economic growth in 2016 and a cautious approach by the Fed regarding additional rate hikes, we do not see any fundamental changes occurring imminently in the distressed debt market. If the consensus view is generally correct, we believe that the most attractive opportunities may emerge in the energy sector, with lower commodity prices exerting stress on some issuers, or in the higher end of the capital structure (e.g., secured and senior securities, as well as refinancing deals) across the other sectors.
What Are the Risks?
All investments involve risks, including possible loss of principal. Value securities may not increase in price as anticipated or may decline further in value. Investments in foreign securities involve special risks including currency fluctuations, and economic and political uncertainties. Investing in the natural resources sector involves special risks, including increased susceptibility to adverse economic and regulatory developments affecting the sector. Investments in companies engaged in mergers, reorganizations or liquidations involve special risks as pending deals may not be completed on time or on favorable terms, as well as lower-rated bonds, which entail higher credit risk.
Peter A. Langerman is chairman, president and CEO of Franklin Templeton's Mutual Series.