MULTIBILLION dollar corporate takeover deals are now common place on both sides of the Atlantic, powered by competitive pressures, strategic synergies, deregulation, technology or the sheer "irrational exuberance" of offshore capital.

Unlike the hostile takeover bids launched by corporate raiders in the 1980s, merger deals in the 1990s are driven less by financial alchemy than the strategic imperative to restructure entire industries by CEO's in banking, pharmaceuticals, oil, telecommunications, media, software, insurance and autos.

So Citicorp merges with Travelers to create a global financial supermarket. Daimler Benz buys Chrysler to get a beachhead in Detroit. Worldcom outwits British Telecom to win MCI's strategic client network in the US. BP buys California's Atlantic Richfield and Chicago's Amoco to create a global oil and gas conglomerate that can compete on the same scale as Exxon or Shell. Lucent enters the world of high speed digital data networking technology with its buyout of Ascend Communications.

Yahoo buys Geocities and Broadcast.com in its bid to become the world's premier Internet multimedia business. ATT spends $100 billion to own the US cable empires of Media One and TCI. The deals have never been so big, so frequent or so strategic corporate life and death issues.

So how does an average investor make money out of merger mania on Wall Street? For the most part, he cannot because when a corporate bid is made public, the stock prices of both predator and target enter the Twilight Zone, with each boardroom brawl or court ruling causing unpredictable swings in both stock prices. Qwest, for instance, lost 30 per cent of its value in the week after it entered a bidding war for a rival telecom firm Frontier. The average investor has zero access to the insider intelligence, gossip, secret dawn raids, block trade patterns, bidding and counter-attack strategies of the rival CEOs, court rulings, bank financing credit lines data and complex stock swap valuation models etc. that determine the prices of takeover stocks amid a Wall Street feeding frenzy. This is the domain of a secretive, elite cabal of powerful professionals known as "merger arbitrageurs", whose calculations often determine the fate of even the biggest takeover deals on Wall Street.

Merger arbs, contrary to popular perception, do not just bet on who will be the next target of a Fortune 500 CEO bitten with the takeover bloodlust bug. The arbs take exposure in both the bidder and the target, simultaneous long and short positions and hedge the overall marker risk with OEX index puts after a deal is public. Their objective is to earn the "deal spread", Wall Street's calculus that a deal may not happen. This strategy is also known as "event risk investing". Deals do fall apart so this "deal spread" risk always exists and is correlated with the Street's changing probabilistic odds of a successful merger. Lack of financing may kill a deal, as happened when the New York money center banks failed to back Kirk Kerkorian's bid for Chrysler. Or a Justice Department antitrust gestapo may kill a deal, like Microsoft's doomed attempt to buy financial software maker Intuit. The Tellabs - Ciena deal also fell apart, as did AOL - Comcast's bid to wrest control of Media One from ATT.

Merger arbs use leverage to magnify their profits. Their consistent success for the past ten years is based on their superior real time intelligence on the myriad forces that determine the outcome of a takeover deal, their sophisticated valuation models to hedge market risk, their nimbleness in grabbing huge secret blocks of shares, their ability to go both long or short and their access to the smart money on Wall Street. Most successful merger arbs in New York have produced returns of 20-25 per cent per annum, returns comparable to the S&P500 in the 1990's but with only one fourth the volatility risk. It is no coincidence that successful arbs boast a Sharpe ratio of 2.5 or above, almost double the overall market index. Specialists in hostile deals, distressed securities, European M&A arbitrage can even make 30 per cent + 40 per cent a year, as do those arbs not afraid to load up on higher leverage ratios.

The returns of merger arbs are correlated not with the Dow or the S&P500 but the volume of deal flow - and deal flow in global M&A has set records every year since 1995, with $1 trillion in consummated deals in '98. Low interest rates stimulate mergers as banks are eager to book high yield syndicated loans to Fortune 500 acquires, as do the exit of Wall Street investment banks from the business in the 1990's to avoid conflicts of interests in their core corporate advisory business. The hostile take over is no longer just a Wall Street phenomenon - note the recent Gucci/LVMH and Telecom Italia/Olivetti brawls in Europe.

Yet the best reason to invest in M&A arbitrage is that global restructuring, the end of US pooling of interest FASB accounting treatment, technology driven takeovers and the birth of the Euro will stimulate historic deal flows in the next two years. The shareholder value crusade will become unassailable corporate dogma in Paris, Berlin and Rome, as it did in North America a generation ago. Just look at the wave of Euro-US deals we saw since '98. Deutsche/BT, Vodafone/Airtouch, BP/Arco, Daimler/ Chrysler are only the tip of the coming M&A iceberg.

So how to select a best performing merger arb hedge fund? One, make sure that the manager has been around since at least the last ten years. This is one business where connections at the highest levels of the Wall Street power pyramid and corporate boardrooms are a license to print money. Two, make sure your manager understands the nuances of the global banking, technology, oil and pharmaceutical industries as they provide incredible opportunities for event investing next year. Three, make sure the manager has at least a $100 million war chest in his fund, so your risk is diversified across many deals. Four, the best managers have disciplined risk management systems, mathematical models to hedge market risks that have proven themselves in the summer of '98 mini-crash and on Black Monday back in October 87. Five, the top managers invest in their own money in the Fund. Six, the top arbs work within reasonable leverage. Any arb with a single year loss of more than 10 per cent is either making outright market bets or using too much leverage to goose returns. Avoid such risk takers because they dilute the pure strategy of merger arbitrage.