Deals Are Booming, but Antitrust Scrutiny Has Deal Traders Worried

Their anxiety stems from a growing conviction that global regulators are gearing up to challenge more deals on antitrust grounds. Their fears were realized earlier this week, when Nvidia Corp. and SoftBank Group Corp. ’s Arm called off a $40 billion deal that regulators had challenged.

Investors lost faith that the semiconductor giants would combine after the Federal Trade Commission sued to block the merger in December. But the jitters have since spread to other blockbuster combinations, including the biggest deal of 2022 so far: Microsoft Corp.’s $75 billion deal for Activision. The videogame maker’s shares are trading at around $82, some 17% below Microsoft’s $95-a-share offer. Merger targets tend to trade at a much lower spread of 5% or less.

“That’s not wildly off of a 50/50 implication that the deal gets done,” said Steve Schlemmer, chief executive of Churchill Capital USA, a research and brokerage firm. “That’s pretty low for a deal that would have seemed fine a few years ago.”

The wide spread reflects a new set of expectations around how regulators view big mergers. The deal would marry Microsoft’s gaming systems with a leading maker of the games played on those systems. It’s the kind of acquisition that rarely raised eyebrows in the past, when regulators were more concerned about a deal’s effect on market share. Tech deals, especially, are in regulators’ crosshairs.

Merger-arbitrage traders seek what is supposed to be safe money: They buy shares after deals are announced, hoping to capture the final bit of upside when the transaction closes. Delays associated with antitrust challenges hinder their ability to make a quick return, and hedging strategies run up their costs.

Greg Bassuk, CEO of AXS Investments, said the uncertainty has led his merger fund to alter its trading strategy.

“For deals with antitrust issues, we will get involved later versus enduring the ups and downs of the market,” Mr. Bassuk wrote in an email.

Change Healthcare Inc.’s sale to UnitedHealth Group Inc. is among those facing antitrust scrutiny. Its stock is trading some 26% below the offer price.

Investors are watching another videogame deal: Take-Two Interactive Software Inc.’s $11 billion cash-and-stock deal for FarmVille maker Zynga. Zynga has been trading around 7% below the deal’s per-share value.

Spirit Airlines is trading about 7% below the per-share price in Frontier Group Holdings Inc.’s $2.9 billion cash-and-stock deal announced earlier this week. Arena Pharmaceuticals Inc. is roughly the same amount below the $6.7 billion in cash Pfizer Inc. agreed to pay for the maker of treatments for inflammatory bowel diseases in December. Termite killer Terminix Global Holdings Inc. is trading about 10% below the price Rentokil Initial PLC would pay shareholders who elect cash and stock in the deal.

Still, wider spreads can spell opportunity, said Salvatore Bruno, the chief investment officer at IndexIQ, which runs an exchange-traded fund that’s focused on mergers. Last month, Advanced Micro Devices Inc. said it had gained approval from China to complete its purchase of Xilinx Inc., first announced in October 2020. Xilinx had traded as much as 40% below its agreed-upon price.

Merger-arbitrage funds outperformed a broader index of hedge funds in 2021 for the first time since 2018, according to industry data provider HFR. That trend continued in January.

And companies are still doing deals. M&A volume slowed a bit last month from December but remained in line with January 2021 levels.

Write to David Benoit at david.benoit@wsj.com