Q:  What is the history and goal of the fund? A : The Merger Fund® was launched in 1989 as the first mutual fund devoted exclusively to merger arbitrage. The fund's investment adviser is Westchester Capital Management, LLC. The fund principally invests in publicly announced mergers, acquisitions, takeovers and other corporate reorganizations, with the goal of profiting from the timely completion of these transactions. Q:  Would you elaborate on the fund’s merger arbitrage strategy? A : We practice a very conservative manner of merger arbitrage. The “arbitrage” aspect of the strategy name derives from the fact that it is an absolute return strategy. In other words, we arbitrage the difference between the public trading price of the target company’s shares and the value of the consideration being offered for those shares in a merger or an acquisition. Importantly, liquidity and beta exposures of the portfolio are managed with the goal of producing a non-correlated investment profile. First, in the case of a stock-for-stock deal, we will purchase the shares of the target company, which typically trades at a discount to the announced deal value, and we will simultaneously sell short the equivalent number of acquiring company’s shares that we expect to receive when the deal is consummated. In the case of a cash deal, we will purchase the shares of the target company, again at a discount to the value of the deal consideration we expect to receive- however, there is no need to sell shares of the acquirer, because the dollar value to be received is fixed. Hence the risk incurred is deal completion risk, not market exposure risk. When the transaction is completed, we will simply receive the cash proceeds. Cash deals do, however, have a small degree of interim beta associated with them and we attempt to hedge out any of this “residual market exposure” through the use of macro hedges, such as S&P put options, ETF puts or puts on relevant peer group. Our portfolio is dynamically managed, meaning that as developments occur, we may increase or decrease the size of our positions as the risk/reward profile of the investment changes. Finally, portfolio diversification is extremely important. Given the asymmetric return profile of each individual investment, where the downside exposure to a failed deal is much greater than the potential gross profit on a completed deal, it is simply not optimal to construct a merger arbitrage portfolio with only a couple of investments. Therefore, we are very proactive in managing our exposure, position concentration, sizing and portfolio liquidity; and typically have between 45 and 65 deals in the portfolio at any one time. Q:  What are the main principles of your investment philosophy? A : Our goal is to provide equity-like returns with bond-like volatility, with very little correlation to either of those markets. We do not speculate on future takeover targets or invest based upon rumors. We will only invest in publicly announced situations. We invest internationally, and in the case of foreign transactions, we hedge all currency risk by making forward sales of the foreign currency to be paid with, to be settled as of the expected date of deal closing. Q:  How do you transform this philosophy into an investment strategy? A : Our analysis begins by assessing the rationale for the transaction. We attempt to determine whether the deal makes sense for both the buyer as well as the seller. This includes consideration of the strategic rationale for the transaction, the history and reputation of the management teams involved, the conditions attached to completion of the deal, regulatory issues, liquidity, timing, downside and rate of return. Then, if we are comfortable that the impetus for the deal is credible, we embark upon further research. We always read the merger agreement, as this is the controlling document for the transaction. It discloses the terms, conditions, termination provisions, regulatory requirements and the Material Adverse Change (MAC) clause, which defines the conditions under which the buyer or seller can terminate the transaction without penalty. Although we generally perform our own primary research, we often supplement it with Wall Street research as needed. We also routinely employ outside advisers, including domestic and international industry attorneys and consultants who have antitrust or other regulatory expertise. This is critical because regulatory issues are the primary cause of delayed or terminated transactions. In domestic as well as international situations, the ultimate intent of our analysis is to minimize deal-break risk and to construct a portfolio which provides attractive, risk-adjusted returns with minimal drawdowns. Our goal is to provide a steady absolute return in virtually any market environment. Q:  What is your research process? A : In conjunction with the above process, and unlike many of our peers, we find value in and often visit the companies in which we invest. Our scale gives us an advantage in this regard, in that companies are more receptive to visits from significant shareholders, especially those that are likely to support the proposed transaction. Once we are comfortable with our subjective assessment about the probability of success of the transaction, which is more of a {{qualitative}} analysis of the investment, we then analyze the economic merits of the opportunity and apply a more {{quantitative}} analysis as well. To assist in this part of the assessment we have developed a proprietary quantitative model that we use as a portfolio overlay, or optimization tool. The model permits us to standardize the review of individual investments with differing characteristics, such as timing, downside and the likelihood of success. It assists us with investment selection as well as position sizing, and most importantly, quantifies the risk/reward profile of the opportunity. Ultimately we focus on those deals that provide the highest risk-adjusted returns, not those that produce the highest returns without regard to potential drawdowns. Q:  Is there sufficient time to do your research between the announced merger and the time when the deals are completed? A : The time between when a deal is first announced and when it is completed is typically between several months and several years (in the case of public utility transactions, for example). Thus, between the announcement and the deal completion, there is plenty of time to commence research and get our thoughts in order before committing capital; having said that, given our experience, global resources and research expertise, we can often establish an initial position in a deal in as little as 30 minutes if there is sufficient liquidity, price inefficiency and investment merit. Q:  Do you hold on to the security after the deal closes? A : We will hold on to the investment as long as the amount to be made justifies the potential risk. But, if the stock price rises to the point that it no longer offers an attractive risk/reward ratio, we may exit the position prior to the completion of the deal. Conversely, we also may not invest immediately because the stock price may be too high relative to the downside risk, so we may wait a number of months until an attractive entry point arises. We try to avoid any directional exposure. Therefore, once the transaction is completed our position will be closed out. Q:  What deals do you avoid? A : Our investment decisions are based on the unique characteristics of each opportunity. Every investment must be public and have a defined timeline and expected return. Outside of these factors, the strategy is designed to “go where the deals are.” We are, therefore, more reactive than proactive when it comes to making specific allocations to macro-factors like industry, sector and even country. Accordingly, we tend to avoid deals where the likelihood of deal completion is low and/or we are not being adequately compensated for the investment risk. Q:  How do you execute your portfolio construction? A : The Merger Fund is typically invested in 45 to 65 arbitrage investments at any one time. The typical position size ranges between 2% and 2.5%, and our international exposure varies based upon the existing opportunities. Recently, almost 40% of the portfolio was invested outside the United States. Our average holding period is three to six months, roughly the amount of time it takes for most deals to be completed. Portfolio turnover is generally in excess of 200% per year. The typical life of a transaction is anywhere from four to six months. When a deal is completed, our invested capital is returned to us soon thereafter, and we then immediately redeploy that capital into new transactions. So the portfolio continually turns over as the transactions are completed. Q:  What do you consider risk at the portfolio level and how do you manage it? A : The principal risk is the possibility that some of the proposed reorganizations in which the fund invests may be renegotiated or terminated. To mitigate the risk of broken deals, we carefully research potential investments, maintain a diversified portfolio of approximately 45 to 60 deals and avoid outsized positions. Naturally, we want to expose our clients only to the risk pertaining to whether the deals are successful or not, rather than to any type of directional correlation, be it interest rate or stock market risk. As a result of our process, we have been able to provide stable, uncorrelated returns throughout many market cycles over the past few decades.