We continually tout the power and potency of the merger and acquisition boom as a primary driver of the global bull market in stocks. Year to date total global M&A is already close to a trillion bucks, and tracking ahead of last year's record pace. That's leading many to conclude we've entered "mania" territory. Allusions to 1999 abound, replete with level-headed, but grim, proclamations telling us "it's not different this time" and "we've been here before and it ended in tears."
How the Private Equity Boom Will End
By Adam Lashinsky, CNN-Money
Yet another sign of speculation: wonky new hybrid public/private companies. Such strange things must denote a peak, right!?
Latest Trend in Big Buyouts: Blend of Public, Private Traits
By Dennis K. Berman, The Wall Street Journal (*site requires registration)
These are fair enough points. They make logical sense. The problem is the facts behind the logic aren't right. History repeats itself when the situations are the same. Manias, bubbles, whatever you call them, always end the same way. The thing is, this isn't a mania. The primary feature of a mania is psychology—speculation sans legitimate fundamentals to support the frothy activity. That's not what we have today.
Consider: for the first time since 1984, so far in 2007 more M&A deals are being done for cash than stock. This should tell you something. Companies, private and public, are engaging in very rational behavior. So long as equity earnings yields (the inverse of the P/E ratio) remain higher than long term bond yields, companies will merge, go private, and buy back stock to their heart's content…and do it profitably. This isn't speculation; this is good business. Such a fundamental situation happens so seldom, folks have a difficult time seeing it.
We don't hear a lot of management chatter about "synergies" surrounding most mergers today. It's all about cold, hard economic facts. Companies are buying each other because it's profitable for them—no special synergetic strategies are needed to create value.
Will there be a hangover when it's finally all over? Of course! Some firms will undoubtedly go overboard and some pain will ensue. But the pain won't happen until the fundamentals dissolve (equity prices rise precipitously, long term interest rates rise, companies burn through all their cash and overburden themselves with debt, or some kind of ridiculous legislation is passed to inhibit free market M&A activity).
If you must have a historical comparison, this entire scenario has us feeling like 2006 all over again. Pundits from every corner had a case of the summer sweats, proclaiming the mortgage market was headed for a meltdown by the end of 2006. That bias was confirmed by citing an up-tick in delinquencies in the riskiest part of the market (sub-prime) and anecdotally listing a few imperiled companies (New Century).
It should be very clear by now those frenetic, worried headlines about the US mortgage market were simply false. The credit market hasn't imploded, and the mortgage market hasn't been banished to Hades. Moreover, the economy just keeps growing. All that's really happened is the housing and mortgage markets cooled after a nice, long run. No implosions, no apocalypse. Why?
The lion's share of mortgage activity in recent years was based upon perfectly sound economics, not a mania. Many locked in mortgages or refinanced at very low rates—a smart thing to do. The mania happened at the margins with a small percentage of creditors and debtors engaging in extremely risky behavior. That's not a bubble, that's just a basic economic cycle.
Today, a favorable market environment is promoting big M&A activity, not psychological euphoria. Some acquirers will go too far, but the vast majority won't. So, it is different this time. For now.
The editors at the Wall Street Journal wrote today:
"Many economists worry that this bidding spree is a sign we're hitting another speculative peak, and a bad ending is inevitable. They may be right, or wrong. But if they really knew, they'd be rich."
Spring Merger Fever
By the Editorial Staff, The Wall Street Journal (*site requires registration)
We say, amen. Ride this wave of continued, fundamentally sound M&A activity—now's as good a time to be fully invested in stocks as ever. The boom will end, and it may even end in a mania. But that day isn't today, and probably won't be for awhile.
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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.