The big news on Friday was that US good giant Kraft Heinz was thinking of having a pop at consumer goods giant Unilever.
The Warren Buffett-backed food company was forced to tell the market that it was looking at a $143bn bid for its larger Anglo-Dutch rival, after a report on the FT’s markets blog let the cat out of the bag.
Unilever said “no”, politicians got hot under the collar (just as they did – ineffectually – when Kraft bought Cadbury), and Kraft ditched the bid sharpish.
But if it had gone through, this would have been perhaps the third-biggest M&A deal ever.
The history of big M&A deals is not a pretty one. So what does this tell us about the market right now?
Why you only get big, eye-catching merger deals at the top of the market
Merger and acquisition (M&A) activity is worth keeping a close eye on. It’s one of the most obvious indicators available that a sector or theme is becoming overheated.
Narrow rationality would suggest that company boards – which are ostensibly in the best position to understand their own industries – would only buy rivals when they were cheap and undervalued, and avoid doing deals when other investors were driving prices up to nosebleed levels.
However, as anyone with the slightest grasp of human psychology could predict, that’s not what happens.
Chief executives are like any other human being, only more so. It’s hard to reach that sort of position without a certain level of faith in your own self-worth.
Clearly, having a sense of confidence and self-worth is an extremely important and desirable trait. It’s good to have self-respect, high self-esteem, and all the rest of it.
But given that your average CEO is rarely placed in environments that are conducive to humility, it’s easy for a healthy sense of self-worth to give way to monstrous vanity. They become susceptible to flattery. They love the idea of building global empires. And they have a high conviction in their own ability to beat the odds.
The hotter the industry, the harder it is to resist. Bankers love M&A deals, because it means more fees. That means that CEOs are surrounded by people talking to them about “synergies” and expansion and “game-changing” deals.
And of course, the hotter the industry, the more money there is available to fund these deals. After all, it’s a new era. Even although history amply demonstrates that in aggregate, M&A deals destroy more shareholder value than they’ve ever created, there’s always an exception that proves the rule. When a sector is hot, the people doing the deal have high conviction that they’re the exception.
In other words, it takes a certain amount of irrational exuberance to push through a massive M&A deal. And that’s why, when you see the big, eye-catching deals, you know you’re closer to the top than to the bottom.
There are plenty of good examples of this in action. Look at the tech bubble. In January 2000, dotcom giant AOL merged with old media stalwart Time Warner, one of the biggest M&A deals in history. March 2000 marked the top.
Or the credit crisis. In October 2007, Royal Bank of Scotland saw off rival Barclays to win the hand of Dutch bank ABN Amro. It was the biggest ever banking takeover in Europe. A year later, the entire global banking sector was on the verge of total collapse. Nearly a decade on, RBS is still owned by the British taxpayer and still loses billions of pounds a year.
Or the mining supercycle. The flotation of commodities trading house Glencore in May 2011 marked the top of the last commodities cycle almost to the day. But that year also marked a post-financial crisis peak for global M&A deals in the mining sector. (Mining M&A had previously peaked in 2006).
So what does all of this say about the Unilever deal?
The bursting of the “boring” bubble
Looking at market sentiment is more art than science. So the ideas I’m going to throw around here are speculative. But let’s see where they take us.
If any asset is in a “bubble” state right now, I’d say it’s bonds. They have reached historically low yields and historically high prices, and we may already have seen that particular market peak.
However, if you’re going to talk about the stockmarket, then which stocks are closest to bonds? Which ones have benefited most from people rushing out of bonds to find alternative income sources?
The answer is: defensive blue chips with highly visible revenue streams. The sorts of companies that sell branded consumer staples. Companies with pricing power. All that sensible stuff.
And what’s Unilever? It is a classic example of the blue-chip, multinational, defensive, reliable-dividend-payer, buy-and-hold-forever stock so beloved of the post-2009 rally.
We had a dotcom/telecoms bubble. We had a banking/property bubble. We had a raw materials/energy bubble.
Now we have a bubble in boring stuff.
What does this deal suggest? It suggests to me that the “boring” bubble may be near its endpoint.
The fact that the deal has fallen by the wayside suggests that we’re not done yet. Warren Buffett isn’t daft. He clearly liked the idea of buying a sterling-denominated asset while the pound was still in the post-Brexit doldrums.
But he’s not keen on overpaying and he doesn’t want to wade into a political firefight when he can buy something similar elsewhere without getting on the wrong side of the anti-globalisation movement.
However, it might be the starting point for an orgy of M&A by less discerning investors. Reckitt is already raising eyebrows with its near-$18bn purchase of a US baby formula manufacturer.
Keep your eyes peeled for bigger headline grabbers in the weeks ahead.