By Simon Jessop and Maiya Keidan
LONDON (Reuters) - Hedge funds have trimmed bets on a fall in shares of Clariant <CLN.S>, just as activist investor Corvex increases pressure on the Swiss chemicals company to ditch a $20 billion M&A deal with rival Huntsman <HUN.N>.
The hedge funds' action shows some may have been squeezed by a rise in Clariant shares but also potentially points to some scepticism that Corvex will succeed in scuppering the deal.
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Clariant and Huntsman announced their merger in May valued at about $20 billion, but Corvex, run by New York-based Keith Meister, took a stake in Clariant to try to prevent it going ahead.
This week Corvex upped its Clariant stake to 15.1 percent and wrote to the board reiterating its claim that the merger would destroy shareholder value.
Clariant's shares, up around 9 percent since the Huntsman deal was announced, could drop if it falls through. But the Swiss group's shares have continued to rise since Corvex's campaign began, helped by other investors' support for the merger.
One London-based hedge fund manager, who bets on corporate events such as M&A deals, said this left funds "shorting" Clariant in a tricky position when trying to assess the likelihood of Corvex succeeding.
"(Corvex) doesn't really have an actionable alternative so far, but 15 percent is starting to be meaningful enough to potentially block it."
In "shorting" a stock, hedge funds borrow the shares for a fee and sell them into the market, hoping the price will fall, at which point they can buy them back and return them to their owner, pocketing the difference in price.
After the announcement of the deal in May and Corvex's opposition in early June, demand to bet on Clariant's shares falling rose more than 80 times over 14 weeks as more funds looked to join the trade, according to data from industry tracker Astec Analytics.
But with Clariant's shares up almost 3 Swiss francs since early June, a number of funds have closed out around a fifth of open positions, Astec data showed.
A relatively wide spread between Clariant's and Huntsman's stock prices suggests an 80 percent chance of the deal going through.
"There's been some heavy betting, but it's come down," said David Lewis at Astec Analytics. "People who put money on are sitting on a loss of between 0 and 3 Swiss francs."
"It peaked a week ago and 5 million of those shares have closed themselves out again at a loss, as the price has only been going up."
One of those sitting on the sidelines is Michael Wegener, managing partner at Hong Kong-based hedge fund Case Equity Partners.
"What I need to get involved is either Corvex to go away and invest in a lower spread/lower risk deal or a credible Clariant suitor actually making a move by tabling a higher valued offer."
Around 250,000 Clariant shares were out on loan on May 22, the day the deal was announced. On July 4, when Corvex came out against the deal, nearly 10 million shares were out on loan, before hitting a peak of more than double that on Sept. 7, the Astec data showed.
By Sept. 17, this had fallen to around 16 million shares.
At 1000 GMT on Wednesday, Clariant shares were trading at 23.5 Swiss francs, up nearly 9 percent from May 22 and 5 percent from July 20, by which point the bulk of short positions had been added, according to the Astec data.
At peak demand to short Clariant, in mid-July, around half of Clariant shares put up for loan to hedge funds by long-term investors such as pension funds were out on loan. By Sept. 17, this had dipped to around 21 percent of available shares, according to Astec.
(Additional reporting by John Miller in Zurich. Editing by Jane Merriman)