What is likely happening (though time will tell) is that you have a number of arbitrage hedge funds that bought the stock as an arbitrage play. These funds typically put an automated sell based on price. As volume dried up, the price started dropping (few buyers). As the automated sales are filled, the price is dropping to fill those orders by a limited number of buyers and market makers.

This arbitrage play is largely under the radar so you don’t have a ton of individuals or institutions on top of it, keeping the spread thin. After all, RTSX is a $600 million market cap company – too small for many institutions to look at, let alone buy a significant amount.

Do the smart people know something? Perhaps. And that’s the risk we take. Don’t let price dictate your moves; use data and reasoning to make smart decisions.

Mike B: I much prefer engaging in transactions that give me cash on closing. In merger securities, you run the risk of the deal not closing, and then exposure to a short and long position which, in the end, you may not want.

If the RTSX deal fails, I’ll own RTSX. In that case, I may simply sell and move on to the next deal.

I really enjoy your posts. Joel Greenblatt advises against merger arbitrage because he feels it%u2019s too risky. Instead, he focuses on merger securities that are undervalued in the secondary market after the merger occurs. What is your opinion on merger securities as a safer alternative?

Raph: I can’t say how many deals fall through after Step 5 because it would ultimately depend on the terms of the deals. Workouts with high financing contingencies, small exit penalties, etc. are going to fail more than deals with little or no contingencies and large relative penalties.

Through luck, good fortune, or whatever, more than 90% of the workouts I’ve done have gone through.

David: A great point. I’ll get a post on it in the upcoming weeks.

Maybe you could do an article on selling?

Your wrote at one point about “buying at 50 cents on the dollar and selling at 90 cents on the dollar.”

That would seem to make more sense than buffets buy & hold forever.

Buy and hold forever means you will have plenty of stocks that would not buy at current prices. That doesn’t seem too logical, even considering taxes/transaction costs.

David

Excellent comment once again. What about betting on deals not going through when the spreads are low? Any stat on how many deals go through, how many fail? What the downside of such a strategy?

Thanks for your comment and I look forward to reading your book,

Raph

Here is a link to a list of arbitrage opportunities from the NY Times: The Great Deal Spread of 2008

I hope this is useful to your readers.

I’m enjoying this series of articles.

Stop-loss is not a guaranteed out at $27 a share, is it? I thought those things worked where your broker would start trying to sell your stake when it hit your trigger price ($27 in this example) and would sell your stake at a “market price” after the trigger was hit.

If I’m right about that, would that change the 54/46 odds you said were necessary to make this a profitable wager?

Thanks!