November 17, 2024 – A momentous sea change occurred on November 5th. With Donald Trump winning the U.S. presidential election, the global economy and capital markets began preparing to undergo a significant change.
While many fiercely debate Trump’s personal attributes and social policies, it is undeniable that his economic policies will bring tremendous opportunities to capital allocators.
Many market participants woke up on November 6th feeling hopeful for a brighter future. This hope was spurred by the upcoming conclusion of the Biden administration’s four years of government overreach and overregulation, which stifled innovation, penalized growth, and damaged enterprises. With the upcoming change in government, entrepreneurs, investors, and business leaders look forward to 2025 with tremendous optimism. Animal spirits are re-emerging, and confidence in corporate boardrooms is surging.
The proof is in the pudding, and investors put their money where their mouth is. Following Donald Trump’s election victory, $18 billion of inflows were added to U.S. equity ETFs on November 6th, sixteen times the daily average inflow this year, an undeniable indictment of Trump’s expected boost to economic prosperity. The small cap Russell 2000 ETF saw a $3.9 billion net inflow that day, the largest inflow the fund has seen in seventeen years. The regional banking ETF pulled in its largest single-day inflow on record.
It is safe to say that investors were pleased with the outcome of the U.S. election.
Under Biden, several major government agencies ruthlessly punished organizations looking to innovate and grow. For example, the SEC was relentlessly anti-crypto, refusing to create regulations for the industry and instead choosing to regulate through enforcement in order to shut it down. Not to mention, the SEC tried its best to eviscerate the SPAC market and put a halt to all new issues. In addition, the FTC and the DOJ had the most anti-merger stance in recent history, attempting to block pro-competitive transactions (sometimes successfully), while casting a dark shadow on the outlook for mergers and acquisitions. Over the past four years, investors believed the FTC’s view on M&A was, “the only good merger is a dead merger”.
The regulatory red tape involved in completing a merger exploded over the past four years. Before 2021, it was typical to see approximately 5% of announced mergers experience a second request under the FTC or DOJ, signifying an in-depth antitrust investigation. Since then, second requests have surged to more than 20% of deals, materially increasing the hurdles, risks, and timelines of completing a transaction.
For example, it took Microsoft nearly two years to complete its $75 billion acquisition of Activision Blizzard, which closed last year. In comparison, it took six months to close its previous largest deal, the takeover of LinkedIn in 2016. Amazon was ultimately forced to give up on buying vacuum-company iRobot for $1.7 billion earlier this year after an eighteen month delay, compared to a less than three months closing timeline for its $13.7 billion acquisition of Whole Foods in 2017, a deal nearly ten times the size. By contrast, under Trump’s previous administration, the average tech deal took less than six months to close.
With significantly elevated prospects of having deals get blocked, or at the very least materially delayed, under the Biden administration’s anti-merger policies, corporations have chosen not to grow via acquisition. As a result, merger activity has fallen markedly.
Last year saw the fewest M&A deals targeting U.S. corporations since 2015. This year is on pace to close with an even smaller number of transactions announced.
In contrast, the new administration’s economic policies are focused on reducing regulations, cutting taxes, and boosting economic growth. The likely net result of these policies will be a more dynamic economy, higher inflation, a rallying U.S. dollar, and a dramatic increase in capital formation and merger activity.
Another result of these policies is a potentially higher neutral interest rate, which will push the Federal Reserve to maintain an elevated fed funds rate, resulting in a continuation of the “higher for longer” trend.
Despite the potential risks of higher interest rates for indebted, sponsor-backed private companies which rely on floating rate loans, Trump’s business friendly stance and focus on a strong economy supports the growth of middle-market companies.
Since the election, rate cut expectations have fallen, as higher economic growth and inflation is priced in. The market is now beginning to expect only one or two rate cuts from the Federal Reserve by next summer.
U.S. interest rates may not fall as rapidly as previously expected, especially if tax cuts and tariff increases under a Trump administration drive inflation higher. Since the election, the neutral rate has crept up by 10bps.
The political sea change has created two trends for investors to expect: higher base rates and increased M&A activity.
With those expectations, we present two Trump trades for 2025:
1. Merger Arbitrage – Risk arbitrageurs earn an attractive yield by providing liquidity to merger target shareholders. An M&A revival will lead to a greater supply of mergers, bringing greater deal spreads and higher arbitrage yields. Given that merger arbitrage yields are derived as a spread to the risk-free rate, higher expected base rates will lead to higher absolute arbitrage yields. Meanwhile, elevated deal activity (along with increased deal closing certainty) may result in higher returns with decreased risk.
2. Private Credit – Direct lenders primarily provide senior secured loans to private equity firms conducting leveraged buyouts. Increased animal spirits along with a conducive regulatory and economic environment may allow private equity firms to put record dry powder to work under the Trump administration starting in the first quarter of 2025. Last quarter, the private credit industry provided 50% of the debt financing supporting private equity buyouts. Increased buyout activity creates more demand for private credit loans, leading to higher spreads and greater yields for direct lenders. Yields may further be buoyed by higher base rates, creating a tailwind for private credit investors.
The energy has flipped since November 5th, and prosperous times lie ahead. As a result of the election, investor optimism has turned electric, and hope for a brighter future has surged. Come 2025, animal spirits will be unleashed, resulting in an eruption in capital markets activity, including mergers and acquisitions, which may bring attractive opportunities for arbitrageurs and direct lenders to put money to work.
Accelerate manages five alternative investment solutions, each with a specific mandate:
- Accelerate Arbitrage Fund (TSX: ARB): Merger Arbitrage
- Accelerate Absolute Return Fund (TSX: HDGE): Absolute Return
- Accelerate OneChoice Alternative Portfolio ETF (TSX: ONEC): Multi-strategy
- Accelerate Canadian Long Short Equity Fund (TSX: ATSX): Long Short Equity
- Accelerate Diversified Credit Income Fund (TSX: INCM): Private Credit
ARB gained 0.3% in October, compared to the benchmark S&P Merger Arbitrage Index’s 0.2% return.
Three new merger arbitrage investments were added to the portfolio, out of thirteen announced in the month. Eight merger investments closed successfully. In addition, the Fund added five new SPAC issues that came to market.
At month’s end, ARB was 145.9% long and -13.1% short (159.0% gross exposure), with 48% allocated to merger arbitrage and 52% to SPAC arbitrage.
Accelerate is honoured to announce that the Accelerate Arbitrage Fund (TSX: ARB) was awarded a #6 global hedge fund ranking from BarclayHedge in the merger arbitrage category.
Last month, HDGE notched a 1.4% return despite a challenging month for multifactor long short investing, particularly on the short side.
One of the Fund’s risk-mitigation features is its daily risk models run on the short portfolio, which were more active than average in October. These models actively monitor individual and aggregate short positioning, signalling the need to initiate risk mitigation measures when pre-determined thresholds are met.
Top contributors to HDGE’s positive performance include a long position in Applovin, and short positions in Agilon Health and Methode Electronics.
The biggest detractors to the Fund’s monthly performance were short positions in Remitly Global, NET Power, and MYR Group.
ONEC produced a 1.8% return, buoyed by positive performance in the majority of its alternative asset allocations.
Gold was the top contributor to the Fund’s return, surging by 3.9% over the month. Other significant positive contributors include Canadian long short equity, which gained 3.5%, and private credit, which added 3.1%. In addition, the Fund’s infrastructure allocation contributed with a 2.3% return. Rounding out the asset classes that produced a positive return last month include absolute return and commodities, which added 1.4% and 1.2%, respectively. The leveraged loan and arbitrage allocations gained less than 1.0%.
On the negative side of the ledger, the real estate portfolio fell -2.0%, while the risk parity and managed futures allocations both dropped approximately -4.0%.
ATSX generated a 3.5% gain for October, compared to a 0.7% return for the benchmark S&P/TSX 60 Index.
The three top contributors in the Fund include long positions in Secure Energy Services and Torex Gold Resources, with a short position in declining StorageVault Canada also adding to the monthly performance.
The top detractors included short positions in Endeavour Silver, First Majestic Silver, and Dye & Durham.
As liquid private credit NAV discounts tightened, INCM finished the month with a 3.1% total return. In addition, INCM’s underlying 11.7% portfolio yield supports its underlying total return.
The FOMC cut the fed funds rate by 50bps in September, bringing the benchmark rate to a range of 4.75% to 5.00%, and SOFR (the base rate driving direct lending yields) to approximately 4.85%. As a result, the INCM monthly distribution was reduced by $0.005 from $0.17 to $0.165 per unit, resulting in an underlying yield of 10.6% (which is still well supported by the underlying portfolio’s 11.7% yield). We expect that for every 50bps of Federal Reserve rate cuts, the INCM distribution will fall by $0.005 per month.
That said, during the last rate-cutting cycle, direct lending spreads widened as the base rate fell, resulting in private credit yields remaining elevated against base rates (as seen in the blue line below).
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-Julian
Disclaimer: This distribution does not constitute investment, legal or tax advice. Data provided in this distribution should not be viewed as a recommendation or solicitation of an offer to buy or sell any securities or investment strategies. The information in this distribution is based on current market conditions and may fluctuate and change in the future. No representation or warranty, expressed or implied, is made on behalf of Accelerate Financial Technologies Inc. (“Accelerate”) as to the accuracy or completeness of the information contained herein. Accelerate does not accept any liability for any direct, indirect or consequential loss or damage suffered by any person as a result of relying on all or any part of this research and any liability is expressly disclaimed. Past performance is not indicative of future results. Visit www.AccelerateShares.com for more information.
