Arbitrage Fund Market Update – March 14, 2023

The news of the collapse of Silicon Valley Bank – one of three US banks to fail in the past week – has reverberated through the markets, fueling significant turbulence over the past couple days. We understand such events typically prompt investors to seek clarity from their managers regarding where their exposures lie. While Arbitrage Fund had no direct exposure to any of the failed banks (Silicon Valley Bank, Signature Bank, or Silvergate Bank), the fund did have several forms of indirect exposure to these ongoing banking issues, as detailed below.

First, the fund has indirect exposure to Silicon Valley Bank (SIVB) through merger arbitrage positions in three deals where the targets had a small banking relationship with SIVB (each for a revolving line of credit): Cardiovascular Systems Inc (being acquired by Abbot Laboratories), Oak Street Health Inc (being acquired by CVS Health Corp), and Sumo Logic Inc (being acquired by Francisco Partners). The SIVB news on Friday, March 10, caused spread volatility in each of these deals as the full extent of SIVB’s relationships and the outcomes for depositors was an open question at the time. We viewed this volatility as a buying opportunity, and on Monday, March 13, these spreads were largely recovering. We are monitoring these situations closely but in general we do not believe the SIVB situation is materially relevant to the successful outcomes of these transactions. These three deals totaled 4.2% of the portfolio as of February 28.

We have further indirect exposure to the regional banking industry through our merger arbitrage position in First Horizon Corp, a regional bank based in Tennessee that operates throughout the Southeast US. First Horizon is currently being acquired by TD Bank. As of February 28, this position was 3.3% of the portfolio. While First Horizon is not directly connected to SIVB, due to the news of SIVB’s failure, regional banks in general sold off on Friday due to broader fears it could indicate a crack in the financial system, which in turn put pressure on this deal's spread. TD recently publicly reaffirmed its commitment to the transaction, and our outlook on the deal – which we expect to close in Q2 this year – has not changed, although rumors of a potential price cut in response to SIVB drove the spread wider still on Monday. Again, we are monitoring this situation closely.

Lastly, the technology industry broadly sold off on Friday due to SIVB’s significant exposure to tech clientele, which put pressure on spreads throughout the sector. We did witness increased selling pressure and ensuing spread volatility throughout most of the merger arbitrage universe on Friday, but it was particularly notable in the technology space. None of our views on specific mergers have changed at this time, so we took this as an opportunity to put capital to work in our highest conviction positions.

As always, thank you for your support, and please reach out to your regional representative if you have further questions.

Commentary represents the manager’s current opinion and may contain certain forward-looking statements. Actual future results may differ from our expectations. Our views may change at any time, and we have no obligation to update them. Commentary should not be regarded as investment advice or a recommendation of any security or strategy. Investing involves risk, including loss of principal. Past performance is not indicative of future results. Visit the glossary for definitions of terms.

Arbitrage Fund top ten holdings as of December 31, 2022: Activision Blizzard Inc; First Horizon Corp; PNM Resources Inc; Sierra Wireless Inc; South Jersey Industries Inc; STORE Capital Corp; TEGNA Inc; VMware Inc; Water Island Event-Driven Fund; Zendesk Inc. Top ten holdings represent 32.6% of the portfolio. Holdings are subject to change. Current and future holdings are subject to risk.

RISKS: Investments are subject to risk, including possible loss of principal. There can be no assurance that the fund will achieve its investment objectives. The fund uses investment techniques and strategies with risks that are different from the risks ordinarily associated with equity investments. Such risks include merger arbitrage risk (in that the proposed reorganizations in which the fund invests may be renegotiated or terminated, in which case the fund may realize losses); short sale risk (in that the fund will suffer a loss if it sells a security short and the value of the security rises rather than falls); concentration risk; high portfolio turnover risk (which may increase the fund’s brokerage costs, which would reduce performance); foreign securities risk (in that the securities of foreign issuers may be less liquid and more volatile than securities of comparable US issuers, and may be subject to political uncertainty and currency fluctuations); market risk; sector risk; derivatives risk; LIBOR rate risk; hedging transaction risk; counterparty risk; swap risk; options risk; liquidity risk; active management risk; investment company and ETF risk; leverage risk; small and medium capitalization securities risk; currency risk; and temporary investment/cash management risk. Risks may increase volatility and may increase costs and lower performance.