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* LongRiver consortium walks away from Severn Trent deal
* Elliott, Davidson, among funds to hold Severn shares
* Lack of M&A this year hurting hedge funds
By Tommy Wilkes and Anjuli Davies
LONDON, June 12 (Reuters) - Hedge funds that bet SevernTrent would agree to a Canadian-led takeover are reelingfrom losses after the water company refused to talk, castingfurther doubt on their money-making abilities in an anaemic M&Aenvironment.
The LongRiver consortium walked away after the Britishutility let the bid deadline expire on Tuesday, ignoring aneffective invitation to negotiate on price.
That sent Severn Trent shares down 8.3 percent on Wednesday,adding to falls on Monday and leaving it below its pre-bidprice, piling up the losses for hedge funds that bought stock inthe past three weeks expecting a deal to be sealed.
"It's pretty disappointing. It looks like the bid/ask spreadwasn't that wide, so it's perplexing," said one hedge fundinvestor who spoke on condition of anonymity. "The biggerproblem here is the current deals environment."
It is impossible to calculate exactly how many shares wereheld in the hands of hedge funds because UK regulationsstipulate that investors must only publicly disclose stakeslarger than 1 percent in a company under a takeover offer.
Two U.S. hedge fund giants, Elliott Capital Advisors andDavidson Kempner European Partners, did tip the scale withstakes in Severn on June 7 equivalent to 1.27 percent and 1.05percent respectively, but others will have smaller holdings.
People familiar with the market say the deal attracted anumber of hedge funds, though the short period between initialbid and collapse, and the lack of trading in Severn shares,ensured most funds' bets were small - Davidson had to spendaround 40 million pounds for the majority of its stake to earnitself a regulatory filing.
Two of those sources estimated hedge funds owned around 5percent of Severn's stock - by comparison, managers owned almosta third of TNT Express when it was under offer fromrival United Parcel Service in January.
But losses on the Severn deal come on top of a series ofstruggles this year for merger arbitrage funds who wager on theoutcomes of bid attempts.
Most are grappling with a slowdown in new M&A deals thisyear - particularly in Europe and the cross-border big ticketdeals they thrive on - while the few takeovers that have emergedhave left many funds wrongfooted.
The average merger arbitrage fund is up just 1.9 percentthis year against a near 5 percent rise in the average hedgefund, data from Hedge Fund Research shows. Over the past threeyears merger arbitrage managers have made 3.4 percent, whileacross all strategies the average fund has gained 5 percent.
"Investors are chasing the same few high-profile M&Aopportunities and end up hit by the same adverse events," saidThierry Lucas, founder of London-based hedge fund Portland Hill.
"I've been staying away from merger arb. This may change ifthe environment improves and we see a big wave of M&A."
Lionel Melka, partner at Paris-based hedge fund Bernheim,Dreyfus & Co said the collapse of Severn Trent deal talks wasnot a depressing sign for future M&A activity because it was avery particular situation of a regulated company that attractsinfrastructure investors for its inflation-protected cash flows.
"Given the low offer and the asset scarcity, we did not getinvolved. The nature of the bidder also played its part; it isalways more difficult to bring a consortium in a bidding processwith a board than an individual buyer," he said.
"Finally, the fact that this deal did not go through is notsimilar to a definitive agreement not getting done."
UPS's decision to abandon its 5.2 billion euro bid for TNTin January left funds nursing potential losses of more than $700million, sources said at the time. Funds owned an estimated 30percent of TNT shares before news European antitrust regulatorswould veto the deal, the sources said.
Other losing positions this year include small wagers onMeda, currently in talks about a deal with India'sSun Pharmaceutical Industries, after shares in theSwedish drugmaker fell as prospects for a takeoverfaded.
The big hope for managers now is that a deal like Vodafone's approach to buy Germany's biggest cable company KabelDeutschland - announced on Wednesday - becomes aprolonged bid battle from which they can wring a profit.
