Predicting Takeovers Is Accidental Skill for This ETF: Real M&A

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Want a leg up in the game of predicting the next takeovers? This exchange-traded fund might help.

Fifty-seven members of the TrimTabs Float Shrink ETF have been acquired in the past three years -- more than one per month. The ETF gained 70 percent as those mergers handed about $100 billion to shareholders of the target companies, according to data compiled by Bloomberg. Even though the fund doesn’t aim to track mergers, it has outperformed other ETFs that do and even some of the biggest hedge funds that wager on deals.

Some of analysts’ current top takeover picks -- such as Starwood Hotels & Resorts Worldwide Inc., Zoetis Inc. and Scripps Networks Interactive Inc. -- are held in the the $225 million ETF. It chooses companies from the Russell 3000 Index that have a decreasing share supply, strong free-cash-flow growth and a declining ratio of debt to assets.

Past investments include botox maker Allergan Inc., which was bought by Actavis Plc for $65 billion in last year’s most high-profile bidding war, and Kraft Foods Group Inc., which Warren Buffett and 3G Capital are merging with H.J. Heinz.

“It’s really interesting because we didn’t create the strategy to speculate on M&A,” Minyi Chen, the fund’s manager, said in a phone interview from Sausalito, California. “But the companies we hold tend to be attractive targets.”

The ETF has been drawing more investor interest. The number of shares outstanding has increased more than 50 percent during the past year to 3.95 million, data compiled by Bloomberg show.

ETFs represent a bundle of securities, so an investor in an ETF is buying a share of that bundle. The funds trade on stock exchanges the same way individual companies do.

Target Profiles

Other recently acquired members of the TrimTabs Float Shrink ETF include CareFusion Corp., PetSmart Inc. and Covance Inc. The fact that so many of the fund’s holdings have been targeted shows that acquirers are going after financially healthy companies.

Starwood, the $15 billion owner of the W and Westin hotel chains, could be the next member to get bought. The company, whose chief executive officer abruptly departed in February, said this week that it’s exploring strategic alternatives. Analysts say a deal with a rival such as InterContinental Hotels Group Plc could fill the holes in its portfolio and help solve its growth issues.

Pfizer Spinoff

Zoetis, the $22 billion maker of animal-health products that was spun off from Pfizer Inc., is another candidate. Spinoff stocks have become targets lately because the more narrowly focused companies make for cleaner deals. The trend right now is to consolidate similar businesses that have overlapping operations and then wring out those costs to boost profit. Also, Zoetis’s largest shareholder is Bill Ackman’s Pershing Square Capital Management, the activist hedge fund that teamed up with Valeant Pharmaceuticals International Inc. in its failed pursuit of Allergan.

For some analysts, a takeover of Scripps is a matter of when, not if. The door opened for buyers after the $9 billion company’s controlling family trust was dissolved in 2012. The owner of HGTV and the Food Network would be a nice addition for Discovery Communications Inc., Viacom Inc. or Walt Disney Co. Discovery even discussed a potential takeover bid in 2013, though no decisions were made, a person with knowledge of the situation said at the time.

Ripening Rockwell

Rockwell Automation Inc. is another member of the ETF long-speculated to be ripe for bids. Industrial conglomerates such as Emerson Electric Co. or Honeywell International Inc. could take an interest in the $16 billion company, whose parts and technology are used in all sorts of manufacturing plants.

The TrimTabs Float Shrink ETF also owns some companies that are considered buyers rather than sellers, which could still be beneficial for investors. And companies that generate a lot of cash and have low financial leverage are in the best position to do deals.

Stocks of acquirers have been rising on deal announcements because the transactions provide a way to increase earnings in a time when growth is otherwise tough to come by. On March 30, when UnitedHealth Group Inc. -- a member of the fund -- agreed to buy Catamaran Corp. for $13 billion in what will be its largest purchase, the ETF surged.

The fund also owns Monsanto Co., which may be gearing up for a big deal. The world’s largest seed company has again approached Switzerland’s Syngenta AG, almost a year after a previous attempt to buy the $31 billion crop-chemicals producer fell apart, people familiar with the matter said Thursday. Monsanto gained 2.6 percent to $116.95 at 9:50 a.m. Friday.

Each of the 100 members of the ETF counts for 1 percent of the portfolio. Because it’s equally weighted, whether it’s a large or small company getting acquired, it will have an impact.

That’s “the beauty of it,” Chen says.

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