Investment Contrarians

Why There’s More Money to Be Made from Chinese Arbitrage Trades

By for Investment Contrarians |

Money to Be Made from Chinese Arbitrage TradesImagine making money even after a takeover announcement. This is not as difficult as it sounds, as there is often a gap between the proposed takeover price and the prevailing price of the stock after the announcement is made. The reason is that there’s always a possibility a takeover deal could fall through, but my stock analysis is that you can make money on the spread difference in what is known as an “arbitrage trade.”

In general, the larger the bid–market price gap, the more risk there is of a deal possibly faltering. For instance, if a takeover bid is non-binding to the acquirer, the gap could be much higher than in situations when the bid is binding, costing the acquirer a large cancellation fee.

When the market price of the stock trades above the bid price, there’s a feeling that another higher offer may come through or the emergence of another bidder, according to my stock analysis.

My stock analysis is the biggest gap between the takeover price and market price following an announcement tends to be with the Chinese stocks and there are valid reasons why.

In the case of Chinese takeover bids, especially when they originate from insiders of the targeted company, my stock analysis is that there is always skepticism, as many of these proposed deals are non-binding and have very little as far as supportive documents for the bid. In other words, in the cases when a Chinese company is targeted by an insider, it’s akin to an idea that’s floated around by the proposed buyer and is not actually a concrete and supportive bid.

Of course, if the bidder is a U.S. company, there is more substance to the deal, based on my stock analysis.

Even in cases when a recognized major Chinese bank is mentioned as having financed a deal, there’s still skepticism that the deal may fall through, according to my stock analysis.

Take a look at Chinese pork producer Zhongpin Inc. (NASDAQ/HOGS). The company received a $13.50 per share all-cash takeover proposal from the company’s Chairman and CEO, Xianfu Zhu, to buy the remaining 82% or so of the company’s common shares not owned.

Based on my stock analysis, the market doesn’t believe the proposal will pan out, as the current stock price is 22% below the bid price. A special committee of its board of directors has been established to evaluate and consider the offer.

The offer price and the fact that it’s an insider bid appear to be stirring up some issues, especially relative to the fiduciary duties of Zhu, who, in the perfect situation, should be trying to get the highest price possible for Zhongpin.

My stock analysis is that there could be easy money made here of over $2.40 per share, or a quick 22%, if the deal pans out and Zhongpin is acquired. Of course, it’s the “if” that is risky.

The key to stock market success in an arbitrage trade is to understand the bid facts, including the buyer, the financing in place, and whether it’s binding. With Chinese stocks, the risk is higher, but the arbitrage profits tend to be greater than with U.S. companies, according to my stock analysis.

I have listed two other Chinese stocks currently with a possible arbitrage opportunity: the first is Fushi Copperweld, Inc. (NASDAQ/FSIN) with a bid price of $9.50 (4.9% gap); the second is Yucheng Technologies (NASDAQ/YTEC) with a bid price of $3.90 (4.3% gap).

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