Gabelli Global Deal Fund (GDL) Bets on Mergers and Takeovers

"One way to use that cash is to buy existing businesses with strong growth potential. That appears the choice more and more of these cash cows are making.

"In 2010, IBM alone has snapped up more than 10 companies. The merger-mania trend is evident in almost every sector, including pharmaceuticals, banks, airlines, and commodities.

"When a merger is announced, the share price of the company to be acquired rises. But until the deal is done, the price seldom rises to the actual purchase price. GDL swoops in on the announcement and cashes in on the incremental price rise when the deal closes.

"Gabelli Global Deal Fund doesn't try to guess at potential mergers and it doesn't invest its money on riskier deals that have a high probability of falling through.

"It makes its gains by inches, not miles. But by repeating this strategy over and over again, the fund makes a tidy sum.

"For non-cash deals -- where the acquirer will exchange its share for the shares of the acquired company -- GDL takes a long position on the acquired company and a short position on the buyer. This way, it locks in the incremental gain, even if the overall market drops.

"GDL pays a quarterly dividend of $0.32 per share. At current price, the fund has a 9.0% yield ($1.28/$14.14). At the end of the year, it can also pay additional distributions as capital gains -- giving you an opportunity to score a double-digit yield.

"GDL's normal quarterly returns come entirely from return-of-capital. I normally shun this kind of distribution from fixed-income or dividend funds.

"Reducing the capital in those cases can reduce a fund's investments in income producing assets -- and potentially jeopardize its income stream. But for this unique fund, that isn't the case.

"As long as the fund has sufficient funds to rotate through available deals, the income keeps coming in. GDL appears to be doing a good job of maintaining an adequate cash balance, allowing it to participate in new deals.

"Return-of-capital distributions also have tax benefits. These distributions are not taxed in the year you receive them. Instead, you claim these distributions as cost basis adjustments only when you sell the fund.

"If you hold the fund for more than a year, the distributions will end up getting taxed at a reduced, long-term capital gains tax rate.

"GDL currently trades at a 7.6% discount to its net asset value (NAV). This is a little narrower than its one-year average of 9.8% discount, but not markedly so.

"Action to Take --> Merger/arbitrage funds are generally slow moving and stable. Even in a heady merger market, GDL isn't going to appreciate at breakneck speed. But with a near double-digit yield, I can live with that."

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