From Vijay: “I am unable to understand this. When a company buys another company at a specific price, why does the bought-out company stock fluctuate? Would not the shareholders get the specified price if they held out for a while? Like in the case of Chips & Technologies, the Intel acquisition price is 17.50. But the stock is bouncing back and forth from 16 to 17.25. It has not touched 17.50. Who benefits from this kind of transaction? How would a long-term stockholder come out of this? Please explain.”
It doesn’t automatically go to $17.50 for three reasons:
- The time value of money — $17.50 a few weeks or months hence is not worth $17.50 today.
- The possibility the deal might fall through. Anti-trust problems? Misstated financial records? You never know.
- The impatience and irrationality of some investors — just as some people pay $50 to get their $623 tax refund a few weeks early.
Who benefits? When they do it right, big money arbitrageurs, who can afford to consult with lawyers and others to assess the likelihood of the deal actually going through, and who are happy to make half a point (or whatever) on a million shares — $500,000 for tying up $17 million for a while — knowing that if the deal did crater for some reason, they could lose a few million.
Some people live to buy C&T at $3 and sell it at $17. Others live to find $17 stocks that will almost surely be $17.50 a few months later.
You can tell a lot about a deal’s chances by the way the stock trades. If there’s a big discount, the arbitrageurs and others are saying there’s a real chance it won’t happen. If there’s a premium, they’re betting not only that it will happen, but that someone will bid up the price.
One final thought. Part of the irrationality I suggested above really isn’t all that irrational. It’s perfectly OK for two different people in different circumstances to have different risk tolerances and come to different conclusions. To someone with a $40,000 portfolio who paid $3,000 for 1,000 shares of C&T and has little time or expertise to assess the deal, taking $17,000 — a bird in the hand — instead of waiting for $17,500 may be quite rational. To someone with $500 million under management, the chance to make an easy $500,000 by tying up a mere $17 million may also be quite rational. It’s risk transference, not unlike insurance. For you to take the risk of your house burning down may well make no sense. Better to pay $1,000 to insure it. For someone with a billion dollars to take the risk of your house burning down, in return for $1,000, may well make sense.
Quote of the Day
Every debt is ultimately paid, if not by the debtor, then eventually by the creditor.~Jim Grant
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