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May 30, 2017

S3 Research: BDX Short Interest Nears $2 billion on Merger Arbitrage Activity

On April 23rd Becton Dickinson & Co (BDX US) announced a friendly takeover of C.R. Bard (BCR US) in a cash and stock deal. BDX will acquire each share of BCR stock for $222.93 in cash and 0.5077 shares of BDX stock. This offer represented a 25.26% premium over the previous day’s closing prices.

Merger arbitrage traders abhor price inefficiencies so BDX immediately opened down $6.29 and BCR opened up $50.73 on the first day of trading after the announcement, April 24th. This price action took almost 22% of the premium out of the arbitrage. The arbitrage traders could not gorge themselves on a 25%+ profit, they started shorting the “expensive stock” BDX and went long the “cheaper stock” BCR in the deal and locked in a spread of 3.29% on the opening stock prices and over 3% profits trading both stocks over the next several weeks.

Since April 24th, BDX short interest has increased by 462%, going from $353 million to $1.98 billion. The BDX-BCR merger arbitrage activity made BDX the most shorted stock over the last month. With the average spread on these trades between 2.9% and 3.5%, merger arbitrage traders are looking to make between $58 and $70 million on their outstanding positions if they hold them until the deal is finalized.

Even with $2 billion worth of short interest in BDX, it remains a G.C. stock (the easiest to borrow stocks at the cheapest to borrow rates). At a 0.33% borrow fee, BDX’s financing cost since the merger announcement is only $443 thousand and is not eating into the merger arb’s bottom line significantly.

Most of the BDX short activity occurred in the first three weeks after the deal was announced and once spreads fell below the 3% - 3.1% level arbitrageurs shied away from increasing their positions. We should see minimal short pressure on BDX in the future unless the arbitrage spread widens again but with BDX short interest settling into a $1.9 billion to $2.0 billion range for the last two weeks it seems that merger arbitrage traders have finished building their positions and are awaiting interim exit points to reverse out their trades or the finalization of the deal to close out their positions.
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Head of Research, S3 Partners
The information herein (some of which has been obtained from third party sources without verification) is believed by S3 Partners, LLC ('S3 Partners') to be reliable and accurate. Neither S3 Partners nor any of its affiliates makes any representation as to the accuracy or completeness of the information herein or accepts liability arising from its use. Prior to making any decisions based on the information herein, you should determine, without reliance upon S3 Partners, the economic risks and merits, as well as the legal, tax, accounting and investment consequences, of such decision.

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