A Poor Man’s Arbitrage: Toronto-Dominion Bank (TD), Marathon Oil Corporation (MRO) and More

In discount Direct Stock Purchase Plan (DSPP) investing, one advanced technique investors can utilize to achieve profits, is investing in a DSPP with optional purchase discounts in order to exploit the difference in share price between the purchase discount and the current market price. For example, Pembina Pipeline Corp (NYSE:PBA), an energy transfer company operating in Canada, with a mediocre margin of 7.17%, but a manageable beta of 0.68, offers an optional purchase discount of 5%. Investing in companies like PBA, although perhaps a subpar example in its sub sector, may in fact prove useful in achieving a type of arbitrage more readily accessible to retail investors.

Toronto-Dominion Bank (USA) (NYSE:TD)So, let’s look at another company offering a discount purchase option. The Toronto-Dominion Bank (USA) (NYSE:TD) offers a 0-5% discount on direct purchases. TD Bank is a Canadian bank, which largely avoided the sub-prime mortgage crisis so prevalent just a few years ago in the U.S. It currently sports a 3.7% dividend, but like most financial institutions maintains a roughly 1:1 ratio of total debt to total assets, which is more or less expected in its sector, so no problem there. However, TD is in relatively good financial shape compared to its American counterparts and was in fact able to acquire U.S.-based Commerce Bank in 2007 due to favorable Canadian economic factors, such a good currency exchange rate and better domestic economy, which had not been nearly as adversely affected by the global financial meltdown of 2008-2009.

Third, we’ll examine Marathon Oil Corporation (NYSE:MRO). While, MRO is not one of the leaders among integrated oil and natural gas companies, it nonetheless offers a 0-5% direct purchase discount. That being said, although MRO is still an emerging player in the energy sector, it sports a healthy 11.85% margin. Also, its total debt is less than half of its total assets. However, it possesses a 1.5 beta, which may too risky to perform a poor man’s arbitrage (see below-written explanation) as wild swings in the share price, may negate any potential short-term capital gains.

Therefore, in order to perform the (above-mentioned) type of arbitrage, an investor would purchase, typically a large amount of shares, wait until settlement, and then quickly sell their recently acquired lot and pocket the difference between the current market price and the discounted 5% purchase price. Making money on this kind of spread has been referred, by many DSPP investors as a “Poor Man’s Arbitrage (search keyword: poor).”

In terms of risk to retail investors, the main danger with this investment strategy is if the stock loses more than 5% in value, any (potential) profits would be negated. Perhaps an easy way to mitigate this risk is purchase a stock with a low beta and avoid buying around earnings calls. By doing so, investors seeking arbitrage can help mitigate potential wild swings in the overall share price.

While this kind of investment strategy is not without risk and despite investors despite are likely to profit from it, I think the poor man’s arbitrage should be avoided. This is because within DSPP plans with discounted optional purchases, should the company offering the plan observe unusually high volume in the stock, it will either end the DSPP or suspend it indefinitely. Therefore, arbitrage by even small players will often ruin opportunities for the long-term “buy” and “hold” investor which is both unfortunate and completely avoidable by making well-reasoned, ethical (investing) decisions.

Also, another aspect to keep in mind is when working with smaller amounts of shares, commissions, fees, and (short-term) capital gains taxes can eat away profits. In this way, the poor man’s arbitrage works against the small “Mom and “Pop” investor seeking long-term capital appreciation with a focus on dividends. As such, it is abusive to the long-term investor, as likewise is the case of  professional and institutional arbitrage.

As the senior investor Lou Mannheim remarked to Bud Fox, in Wall Street, “Man looks in the abyss, there’s nothing staring back at him. At that moment, man finds his character. And that is what keeps him out of the abyss.” I think as is in the film, short-term gain often leads to long-term market pain. Therefore, value investors should act ethically and make sound decisions within the broader (retail) investor community. By doing so, we establish the kind of good will, which is so rare in today’s market.

Analyze Carefully

This is just one investing technique! There are even more. While, no single technique or strategy is a sure thing, each one has its advantages and disadvantages and must be carefully weighed prior and during investment. But some investment decisions are sounder  than others. By examining each carefully, you’ll go a long way toward improving your investing skills and learning how to separate out the most attractive investment strategies, arbitrage, or otherwise, from the rest.

The article A Poor Man’s Arbitrage originally appeared on Fool.com and is written by David Mercer.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

Dividend Stock Alert - Billionaire Robbins' Top Dividend Idea With 70% Upside Potential

Get Paid 3.5% Per Year While Waiting For The Stock Appreciate 70%

Larry Robbins' Glenview Capital Opportunity Fund returned 101.7% in 2013 and Robbins personally made $750 million. The same fund returned 25.3% in 2014. In this FREE REPORT we will share Robbins' top dividend idea that yields 3.5% and has been increasing its dividends for 39 consecutive years. Robbins thinks the stock has the potential to appreciate 70%.

This is a FREE report from Insider Monkey. Credit Card is NOT required.
Click here to Read Comments
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 74 percentage points in 2.5 years. Our beta is only 1.2 (download a FREE newsletter and see the details inside)

Lists

Best Selling Magazines in the World

Shortest People in History

The Most Celebrated Holidays in the World

Most Expensive Handbag Brands in the World

Top Selling Comic Book Issues of this Century

The Most Powerful Women in Politics

Best Paid DJs

Most Rebellious Female Artists

Best Paid TV Actresses of 2014

Best Paid Actors of 2014

Most Expensive Horses in the World

Tallest People Ever

Most Encouraging Feminist Celebrities

Best Paid Supermodels of 2014

Top 10 Suburbs for Retirement in 2015

10 Wealthiest Cities in America

Top 10 TED Talks for Entrepreneurs

Best TED Talks on Education

25 Most Dangerous Places to Live in America

Top 10 Ski Resorts in the United States – 2014 List

Top 10 Most Remote Places in the World

Most Visited Museums in the United States

Wealthiest Photographers in the World

Most Famous Gay Athletes

The World’s Most Famous Circuses

Best Hair Stylists

Most Popular NASCAR Drivers

The Best Romance Movies of all Time

The Most Wanted Drug Lords

The Oldest Money Managers

The Greatest Directors in the World

Largest Animals in the World

World’s Most Expensive Desserts

Best Selling Comic Books of All Time

A-list Actors who Sabotaged Their Career

Rappers With a College Degree

The Best Jazz Albums of all Time

The Most Influential Jazz Musicians

The World’s Most Famous Photographers

The Best Oscar-Winning Songs

Most Influential Choreographers Ever

Most Expensive Department Stores in the World

The Most Expensive Stolen Paintings in the World

The World’s Most Expensive Teas

Top Oscar Record Holders

The Most Expensive Flowers in the World

Countries With a Booming Film Industry

Most Expensive Cupcakes in the World

Uncommon European Escapes

The Most Stolen Artists in History

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 129% in 2.5 years!! Wondering How?

Download a complete edition of our newsletter for free!