Bad news can be good news for value seekers

CAR-INDUSTRY analyst turned market guru Mario Gabelli has seen treacherous markets before, which is why he is so busy. One of America's best-known bottom-fishers - investors who pick over the market for undervalued stocks - Gabelli has a $23bn (£14bn) fund and a list of 70 low-priced companies he believes are possible takeover candidates as the mergers and acquisitions climate improves.

Gabelli, a fixture on Wall Street for 35 years, is not the only one who thinks this is a good time for takeovers. Two of America's largest private equity funds, Kohlberg Kravis Roberts and Texas Pacific, also see an environment ripe for corporate deals.

Several factors encourage a buying binge. Share prices are down and companies relatively cheap. HSBC offered a nice premium to Household International's shareholders and is still getting the consumer loans giant for half what it fetched a few years ago.

Interest rates are near rock bottom, so borrowing costs are affordable for suitors with quality debt ratings. Banks are eager lenders, too. All this makes for the best environment for M&A since Michael Milken and Drexel Lambert's leveraged buyout financing ruled Wall Street in the 1980s.

Bottom-fishers look for companies that have hidden value or have been unduly beaten up by the nervous market. In today's tumultuous market environment, the slightest hint of added risk or earnings disappointment can send a company's shares reeling even if there is no fundamental change in its prospects.

Home loans provider Fannie Mae fell 7% within hours of a US Federal Reserve official raising questions about the firm that have been circulating for years.

Canadian bottom-fisher Alan Pasnick sees the excessive punishment of companies that disappoint as fertile feeding ground. His Cundill Canadian Security fund grabbed a stake in Talisman Energy at a discount shortly after it warned of flat production this year but forecast a healthy increase in 2004. He also bought other energy companies dragged down by the Talisman news.

The regulatory environment in America and Europe is also favourable. Pfizer's $60bn merger with Pharmacia and HSBC's $14bn takeover of Household International - both clearing regulatory hurdles - will be followed by other mega-mergers as the healthy are permitted to swallow up ailing rivals, strategists believe.

Gabelli's list of companies that are vulnerable to takeover include sweetmaker Tootsie Roll and film-making giant Metro-Goldwyn-Mayer. The latter is selling for about $10 and Gabelli reckons it might be worth $18 a share to the right suitor.