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Answer: Buy 100,000 shares of Company ACQ and short 30,000 shares of Company STZ.
## Explanation **B is correct.** In a merger arbitrage transaction on a share-based exchange, the manager should go long the undervalued target and go short the acquirer if they believe the acquisition will be completed. ### Key Analysis: - **Current Market Prices:** - STZ: CNY 30 per share - ACQ: CNY 9 per share - **Exchange Ratio:** 1/3 share of STZ for every 1 share of ACQ - **Implied Value:** 1/3 × CNY 30 = CNY 10 per ACQ share - **Current Market Price:** CNY 9 per ACQ share **Arbitrage Opportunity:** ACQ is currently undervalued by CNY 1 per share (CNY 10 implied value vs. CNY 9 market price). **Trade Rationale:** - **Long ACQ:** Buy the undervalued target company - **Short STZ:** Hedge against movements in the acquirer's stock price - **Hedge Ratio:** For every 100,000 shares of ACQ bought, short 33,333 shares of STZ (100,000 × 1/3) **Why Other Options Are Incorrect:** - **A:** Long call options on ACQ alone exposes the manager to STZ price movements and transaction timing risk - **C:** This reverses the correct trade - appropriate only if believing the acquisition will fail - **D:** This option strategy doesn't properly capture the arbitrage spread and creates directional exposure to both stocks **Profit Mechanism:** As the acquisition completes, the spread between ACQ's market price (CNY 9) and its implied value (CNY 10) should converge, generating profit.
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A portfolio manager of a merger arbitrage fund is reviewing a pending acquisition, in which Company STZ has offered to pay 1/3 of a share of its stock for every share of Company ACQ. The stock of company STZ is currently trading at CNY 30 per share and the stock of company ACQ is currently trading at CNY 9 per share. The manager believes with a high level of certainty that the acquisition will be completed. Which of the following trades would be most appropriate for the manager to establish to reflect this view?
A
Take a leveraged long position in 100,000 call options on Company ACQ.
B
Buy 100,000 shares of Company ACQ and short 30,000 shares of Company STZ.
C
Buy 30,000 shares of Company STZ and short 100,000 shares of Company ACQ.
D
Sell 100,000 puts on Company ACQ with a strike of CNY 9 and buy 30,000 calls on Company STZ with a strike of CNY 30.
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