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Hedge Funds - Event-Driven Strategies

Event-driven strategies take advantage of transaction announcements and other one-time events. One example is merger arbitrage, which is used in the event of an acquisition announcement and involves buying the stock of the target company and hedging the purchase by selling short the stock of the acquiring company. Usually at announcement, the purchase price that the acquiring company will pay to buy its target, exceeds the current trading price of the target company. The merger arbitrageur bets the acquisition will happen and cause the target company's price to converge (rise) to the purchase price that the acquiring company pays. This also is not pure arbitrage. If the market happens to frown on the deal, the acquisition may unravel and send the stock of the acquirer up (in relief) and the target company's stock down (wiping out the temporary bump), which would cause a loss for the position.

There are various types of event-driven strategies. One other example is "distressed securities," which involves investing in companies that are reorganizing or have been unfairly beaten down. Another interesting type of event-driven fund is the activist fund, which is predatory in nature. This type takes sizable positions in small, flawed companies and then uses its ownership to force management changes or a restructuring of the balance sheet.

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