* World stocks down 6.9 pct in August
* Event-driven funds see billions pulled
* Some big M&A deals could now offer 25 pct returns
By Simon Jessop and Nishant Kumar
LONDON, Sept 10 (Reuters) - The sharp falls in global stockmarkets in August potentially offer hedge funds that decide tobet on the outcome of merger deals a chance to make some juicyreturns.
A plunge in China's equity markets last month that triggeredfalls around the world, in theory, makes it cheaper for hedgefunds to set up a so-called merger arbitrage trade.
Merger arbitrage funds often aim to make money by buyingshares in a company that is the target of a takeover bid in thehope they will rise towards the offer price. They also bet thatthe share price of the company making the bid will fall and theycan make a return from the spread between the two prices.
The spreads on some deals have widened as a result of thestock market falls and volatility, offering an attractive entrypoint for arbitrageurs into some of the world's biggest deals.
During August, the MSCI World Index, which tracksmajor stock markets, fell 6.9 percent to record the worstmonth's performance since May 2012
"August was a pretty tough month, and merger spreads widenedas you'd expect," Ben Watson, Senior Investment Manager atAberdeen Asset Management, said. "But if you haveconviction a deal will close, it's potentially a greatopportunity."
Royal Dutch Shell's planned takeover of BG Group, expected to close in the first half of 2016, forexample, offered funds a return of around 15 percent based onthe spread at the end of August, Watson said.
In the United States, a deal between healthcare groups Cigna and Anthem, due to close in the second half of2016, offered a 25 percent return.
Asset manager Lyxor is about to upgrade its view on mergerarbitrage strategy, Head of Research Philippe Ferreira said,believing this will rebound as market conditions become morestable.
Ferreira said discussions with fund managers using thestrategy revealed that lower returns in July and August weredown to adverse market conditions and not a belief the dealswould fail.
Merger arbitrage is part of a broader category known asevent-driven investing, which seeks to take advantage of shareprice differences that may occur in the run up to a corporatesale, or merger or other corporate event.
Event-driven hedge funds manage about $222 billion globally.In terms of returns, the strategy lost 2.5 percent in August,giving up all its gains for the year, data from trackerEurekahedge showed.
In the first seven months of the year, the broader categoryof event-driven funds collectively suffered net outflows worth$3.3 billion as against $9.5 billion net inflows in 2014, thedata showed.
It has been a bumper year for M&A deals. Globally, M&A hastotalled $2.9 trillion so far this year, Thomson Reuters data toAug. 14 showed, just shy of an all-time record of $3 trillionset in 2007 over the same period.
Watson at Aberdeen said he was looking for arbitrage fundsthat actively trade around incremental deal news, such as signsa deal may fail on antitrust grounds. He said this was becauseof the increased market volatility and as some deals involvecompanies that already have large market shares.
Also, the sheer scale of some deals could be a deterrent toarbitrage funds.
For Chris Hawkins at fund of hedge fund firm Gottex, thescale of the share price fall in companies engaged in dealstherefore needs to be assessed carefully.
"Deals are more attractive than before, but the question isare they now priced correctly... I am not sure that there isconviction that things are truly cheap." (Additional reporting by Emiliano Mellino and Freya Berry.Editing by Jane Merriman)
