September 27, 2010 / 9:22 PM / in 7 years

Bullish option action in AirTran before deal

CHICAGO (Reuters) - A number of well-timed bullish options bets appeared to have been placed on AirTran Holdings just a week before a takeover offer was announced.

Southwest Airlines Co (LUV.N) on Monday said it would buy smaller rival AirTran Holdings Inc AAI.N for about $1 billion, aiming to challenge bigger carriers in the East Coast market.

AirTran attracted unusual call option buying on September 21 on volume that was above the few hundred contracts that typically trade on a daily basis on the stock.

Buyout announcements at times are preceded by an uptick in trading in the stock’s options, which concerns some investors as the fine line between innocuous speculation and trading on inside information takes increasing importance in the U.S. options market.

The activity has prompted at least one option observer to question whether the news reached investors ahead of time.

“On September 21, when AirTran shares were trading at $4.47, one trader paid 15 cents per contract for 738 November $5 calls to open a new position,” said Henry Schwartz, president of options analytics firm Trade Alert in New York.

Schwartz said the bullish transactions were “suspicious,” because AirTran’s average daily call volume over the last 22 days was just 210 contracts. “This suggests that somebody may have known that the deal was soon to be announced,” he said.

The cash-and-stock deal values AirTran at a 69 percent premium to its Friday closing price at $4.55 on the New York Stock Exchange.

Others doubted it was a suspicious trade. “The action was not blatant and was more of an intelligent bet rather than suspicious activity because the small regional airlines were known to be takeover targets,” said Joe Kunkle, a founder of options analytics firm OptionsHawk.com in Boston.

Investors often turn to equity call options, which provide the right to purchase shares at a fixed price up to a certain date, to speculate on potential share price appreciation. A put conveys the right to sell shares at a preset price any time until expiration.

    By the end of the September 21 session, traders exchanged 1,031 calls and zero puts in AirTran, more than three times its average daily turnover for September so far, excluding Monday’s session, according to the Options Clearing Corp.

    As AirTran shares rose 61.31 percent to $7.34 on Monday, the November $5 calls fetched a high of $2.35 per contract, Reuters data shows. For the purchaser of the 738 calls at 15 cents apiece, the profit was potentially $162,360 on an initial $11,070 investment.

    “The other thing that was interesting is that the transaction was initiated by a market maker and not a customer, according to clearing data,” Schwartz said.

    To be sure, it can be hard to pin down whether unusual trading patterns in a target company’s options stem from insider information; it could also reflect speculative bets.

    “It could have been an intelligent speculator. It could also have been something nefarious. The trade was certainly a fortuitous one for the buyer,” said Steve Sosnick, a trader at Timber Hill, a division of Interactive Brokers Group based in Greenwich, Connecticut.

    The U.S. Securities and Exchange Commission, which looks into unusual share and options activity, declined to comment.

    In an email, AirTran did not immediately respond with a comment.

    Editing by Leslie Adler

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