Compared to the rest of the year, the fourth quarter of 2021 was relatively straightforward for the arbitrage strategies.
On the merger arbitrage side, there were no deal breaks in the portfolio. There were a few sizeable merger and arbitrage deals with attractive spreads announced in the quarter, most notably the acquisitions of CyrusOne Inc. by KKR and Cerner Corporation by Oracle Corporation. One spread that continues to generate some noise in the portfolio is Xilinx Inc. being acquired by AMD. The spread remains extremely volatile (and wide) as AMD trades higher and the deal drags on.
Special purpose acquisition corporations (“SPACs”) made a solid contribution to fund performance in the quarter. For the first time since Q1, there were some de-SPAC announcements that traded materially above trust (e.g. Digital World Acquisition Corporation, Supernova Partners Acquisition II Co. Ltd., CF Acquisition Corporation VI, and Gores Guggenheim Inc.). While we never bank on any upside from deal announcements, it does serve to highlight the structural upside optionality in SPACs.
While the upside optionality is nice, the core SPAC strategy relies on SPACs announcing and closing business combinations to crystallize the value of SPAC warrants. Recall that if a SPAC doesn’t complete a deal, the common shares are made whole by the trust account, but the warrants expire worthless, leaving an IPO Unit purchaser with a very low (but still positive) return. To generate an attractive arbitrage return, we need to be able to monetize some value for the warrants. For that reason, we pay attention to the pace of business combination announcements as these are opportune times to sell warrants. We were happy to see this pace accelerate in Q4 with December being the most active month for deal announcements since March 2021.
We continue to see new SPAC IPOs pricing with attractive terms (e.g. up 10.30 in trust). Importantly, the SPAC universe as a whole seems very modestly priced, trading at an approximately 2.5% discount to trust value. Additionally, warrants are trading near their lows. When combined with some attractive merger arbitrage spreads, we are cautiously optimistic about this opportunity set heading in 2022 and are fully invested.
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