John-Paul's Blog

I have been deeply intrigued by my lastest pursuit in finance, Buffetology and the New Buffettology.  The writer of the book, personally knows Mr. Buffet and has privately learned many of his secret techniques.  She discusses Mr. Buffet’s long term strageties as well as his arbitrage workouts (that’s what he calls them!), but today I would like to discuss the arbitrage part of his portfollio.

One of Mr. Buffet’s ways of growing his wealth is his involvement in arbitrage.  Arbitrage is where one company declares that they will buy/takeover another company for X amount of dollars per share. Remember a share is a percentage of ownership in the company. 

Now what Warren Buffet does, is after the merger is announced, he will buy the shares at a discount price and sell them once the investment realizes it’s full value. 

The stock generally speaking will not sell at the full per share price of the buyout offer until after the buyout has actually taken place because of the simple fact that the investor needs to make a decent ROI and because of the risk that the merger may not be realized.  So let’s see how this works using a hypothetical example.

So you check out www.mergerstat.com to find the listings for all of the mergers for the day.  And you see that company A is selling for $10 per share, and also that company B will buy out company A for $15 per share.  It states that this merger/takeover will close in a year.  So if you buy 100 shares of company A at $10 per share today, you hold onto it for a year until after the buyout, and you would make $500 dollars at the end of the year.  You also would have made a 50% ROI.