Mad Money

Trading Takeovers


Investors looking for a reason to stay in the market, even in the face of credit crises, “flash crashes” and all-too-powerful hedge funds, should consider takeover speculation, Cramer said Monday.

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“When a public company gets acquired,” he said, “in the vast majority of cases, you will catch a major move higher in the stock.”

That’s because companies only sell themselves when they think they can deliver more value for shareholders through a deal than by staying independent. Hence the pop that usually follows an acquisition announcement.

It isn’t impossible to see these deals coming, either. Often times a good understanding of the day’s secular trends will do the trick. Like when Cramer predicted that Starent Networks, a play on the growth in smartphones, was ripe for a takeover. Sure enough, Cisco Systems on Oct. 13, 3009, made a bid for Starent at a 20% premium to the previous day’s close.

Cramer had been a big proponent—and still is—of anything having to do with smartphones, or the mobile Web, so he could tell that the Street just wasn’t giving Starent the valuation it deserved. So, apparently, did Cisco, which obviously wanted an entry into the space and was willing to pay up for it. Investors who bought Starent on Cramer’s recommendation on May 8, 2009, caught an 80%.

A similar pop happened when Tyco Electronics bought ADC Telecom , another wireless play, but these secular growth themes aren’t the only way to trade a takeover. Beaten-down stocks work, too. Cramer eyed 3COM when it fetched just $4.94 a share on Sept. 25, 2009, because the company showed signs of a turn. And again, so did Hewlett-Packard , which later bought 3COM at a 39% premium. The gain for investors who bought when Cramer first made his call? 52%.

Another instance where takeovers are likely is when a business is either impossible or hard to duplicate. That’s why BHP Billiton made a lowball bid of $130 a share for fertilizer company Potash on Aug. 17, 2010. The move was the most effective way for BHP to get into the potash biz. The market then realized this, too, and took POT up to $150 in a week. Anyone who followed Cramer’s advice and bought Potash on Jan. 12, 2009, earned an 88% gain. And even those who bought in on his Aug. 5, 2010, recommendation captured a quick 22%.

Investors just need to remember two important things if they’re going to trade takeovers: One, only buy companies whose fundamentals are sound. That way, if the deal doesn’t happen, the stock should hold up regardless, keeping any potential losses to a minimum. And two, once the target company gets a bid, take profits. Cramer doesn’t believe in arbitrage, so you lock in those gains when you have them.

When this story published, Cramer’s charitable trust owned Cisco Systems.

Call Cramer: 1-800-743-CNBC

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