Comments on: After a Brief Break, Here’s A Merger Arb Trade For You

By: Chad Brand

Chad Brand — Tue, 09 Jun 2009 12:42:05 +0000

Bob,

Mandatory convertibles simply convert to common stock on the stated conversion date. This happens automatically.

By: Robert Litfin

Robert Litfin — Mon, 08 Jun 2009 21:35:32 +0000

Thanks Chad,
I did not bring MRK into the equation; did’nt plan to hold long term.

How does a “Mandatory Convertible” work? As I said I’m only familiar with the old-fashioned version.

Can I choose to convert?
When?

Bob

By: Chad Brand

Chad Brand — Mon, 01 Jun 2009 14:21:06 +0000

Robert,
Your idea doesn’t quite work the way you outlined it. You can certainly arbitrage SGP with SGP preferred (lots of arb hedge funds do this with convertible securities), but the spread is not as wide as you indicated because you used the price of MRK, not SGP in your calculation.

Given the deal in place, MRK will eventually trade equal with SGP but you can’t assume SGP will rise to Merck’s price because Merck could just as easily trade down to where SGP trades, which negates your arbitrage.

Therefore, to capture the deal spread you need to work MRK into the trade somehow. The spread on a conventional convertible arb with only SGP is lower (1-2% plus the dividend differential of 5.7%)

By: Robert Litfin

Robert Litfin — Sat, 30 May 2009 07:45:21 +0000

Thanks for the discussion. I came here because I am trying to find the offering prospectus for SGP-prB. Can you direct me??

PS. I saw on Big Charts today SGP=$27.58 and SGP-prB=$218.89. This ratio is thus 7.9365 vs. 9.0909. [or 9.0645sh conversion from $250 at today's underlying price].

So my thought was why not arbitrage: long 100 SGP-prB and short 906 SGP for a 14% spread + the dividend spread. Must be something wrong or the sharpies would have already closed the gap.

Is SGP-prB not convertible by me? thus would I face heavy margin? I am only familiar with old-fashioned convertible stocks/bonds/warrants. There is something I am missing here … what is it?

By: Motts McGregor

Motts McGregor — Tue, 07 Apr 2009 14:27:10 +0000

You will not be compelled to convert although the make-whole option makes early conversion more attractive than it would be in the absence of a merger.

As a follow-on, if you decide to hold the SGP-pref after the merger, it will be convertible into MRK common in an amount that depends on the price of common just as it does now as described in the preferred prospectus. Accounting SGP IR yesterday, a new table listing the new conversion ratio will become available after the deal closes (as that’s as soon as the actual ratio between the two common stocks will be known for certain).

Seems to me if one were seriously concerned about the risk of MRK common exploding to the upside, relatively cheap very out of the money call options could be used to protect against that.

Thanks again for your suggestion to look at this.

-Motts