Chris Tyler, Optionetics.com
March 31, 2011
Wednesday morning it was announced Canada’s Valeant Pharma (VRX), which combined with Biovail during the past year, was ready to grow a bit larger. The large cap drug manufacture made an unsolicited bid for US biopharmaceutical outfit and mid capper Cephalon (CEPH) with a bid of $5.7B and representing a premium of about 24% above the prior night’s close.
For the majority of longer-term shareholders in CEPH, the bid was, to say the least, a breath of fresh air as shares in recent weeks and months have been under pressure and near five year lows forged back in July 2009. On or maybe better yet, in the other hand, it’s likely some faster money traders with attention tuned in to the daily chart, made the proverbial overnight killing.
Just prior to Wednesday’s opening gapper of about 30%, shares of CEPH had actually managed a bullish first in 2011. The stock joined the ranks of the SP-500 and others, albeit from a very different technical stage, by closing above its 50SMA on well-above normal volume, while also confirming its breakout of a longstanding monthly downtrend line from two sessions prior.
Did those fast money bulls just get lucky with a technical entry and then find themselves in the very enviable position of being a part of the latest and greatest M&A story? It’s hard to say without having the authorities from the SEC involved. Nonetheless, in this market analyst’s opinion, the fast money could be worth investigating as it relates to some softer and what appears to be, highly profitable, long delta positioning in the options market.
Along with enthusiastic stock volume which may have been simply enjoying a technical breakout in shares of CEPH, there was what I’d label as fairly unusual trading of 3,800, far out-of-the money August 70 calls which hit the tape during Tuesday’s session before closing mid market at $0.60 per contract.
Compared to open interest of 2,600, a good portion of the activity had to be the opening of fresh positions. It turns out with open interest of 5,136 going into Wednesday’s session that indeed, about two-thirds of the contract volume was opening. Further and of interest, with premium of just $0.60 at risk, let’s face it, the party or parties involved and initiating were unlikely to have been doing anything other than the “buy to open” variety. As a sub 15 delta call, hedging with stock as part of a buy-write with nearly five months on the calendar, is highly unlikely; as would be a delta neutral variation of that long stock / short call combo.
Did someone say “spread?” As the only other call activity above 100 contracts was in the slightly out-of-the money front month April 60 call, which is mostly what we’d expect to have traded given the technical assessment of the day; I’d say it’s unlikely. Also, the April option traded 1,845 contracts and just less than 50% of what traded in August. Combined, the possibility of the two calls representing a spread doesn’t exactly maintain the air of a hedged position anyone would have established without taking on fairly stiff risk.
Admittedly, in checking for prints my data feed didn’t allow me to go far enough back into Tuesday’s session to sift through all the time and sales related to the activity. Also, I can say that the little bit of activity I was able to confirm did show the August volume wasn’t just one block print as evidence of some lighter activity was spotted. However, that’s far from precluding my suspicion that something or “CEPH’ing” was up. In fact and net-net, with the August 70 call gaining more than 1,100% on the session and given what we do know for sure about the situation; I’d say there’s evidence enough for an informal inquiry into a heavily-traded contract which doesn’t entirely make sense but sure made a lot of cents in the process.
Senior Options Writer, former Market Maker & fulltime Option Hedge Hog Advocate
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