Merck options' spike before Vioxx news questioned
Thu Sep 30, 2004 06:03 PM ET
By Doris Frankel
CHICAGO, Sept 30 (Reuters) - Heavy buying of bearish options on Merck & Co. (MRK.N: Quote, Profile, Research) a day before it pulled its key arthritis drug Vioxx off the market is raising eyebrows among options market players.
Some traders appear to have scored big on the bombshell news, which wiped out $27 billion of Merck's market value. The day before, these lucky few appear to have bought put options giving them the right to sell what is now a $33 stock for $42.50. The transactions gave them a combined tidy windfall of about $2.7 million.
An unusually large number of those October 42.5 puts were traded Wednesday afternoon, prompting questions about whether some investors were tipped off before the Vioxx withdrawal was announced on Thursday morning.
"It appears that these options were purchased...on Wednesday in anticipation of the Merck announcement this morning," said Oppenheimer Co.'s chief options strategist Michael Schwartz. "So what appeared to be a surprise to Wall Street is not a surprise to the few that purchased these puts."
A total of 2,919 of those puts changed hands on Wednesday. That is roughly 17 times the average daily volume of that class of option since August, according to data compiled by options advisory firm Schaeffer's Investment Research.
"This was definitely a statistically significant large amount of volume for this particular option," said Andrew Stout, Schaeffer's quantitative analyst.
Wednesday's spike in those bearish Merck contracts stood out even though the combined overall options volume on Merck stood at around 10,125 contracts, close to the daily average.
Further, the options were well out of the money at the time. Each contract gave the buyer the right to sell 100 shares of Merck at $42.50 by mid-October. On Wednesday, Merck shares traded in a tight range of $44.64 to $45.07, and the stock had not traded as low as $42.50 in nearly 10 months.
But the investors who accumulated these puts hit the jackpot. The price of puts typically goes higher as the underlying stock falls.
On Wednesday, the October 42.5 puts were trading at 10 cents each. They closed Thursday at $9.50 a contract, yielding an overnight bonanza of more than $2.7 million for Wednesday's unknown buyers of the 2,919 contracts, Schwartz said.
According to Stout, about 1,000 of those put contracts on Wednesday appear to have traded in four transactions at around 1:07 p.m. EDT. Half were traded on the all-electronic International Securities Exchange and the other 500 were on the all-electronic Boston Options Exchange, he said.
Stout then spotted nine transactions at 3:45 p.m. totaling 1,908 contracts, of which 1,608 were traded on the ISE and 300 on the Pacific Exchange.
A spokeswoman for the ISE said it routinely reviews trading activity but does not otherwise comment. A Pacific Exchange spokesman said, "We don't comment on regulatory matters that may or may not be under investigation."
A spokesman for the U.S. Securities and Exchange Commission also declined to comment.
A Boston Options Exchange spokesman was not immediately available for comment.
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