12 November, 2009
DEALTALK-3Com trades a red flag in sensitive environment
*Line between speculation and insider trading is blurry
*3Com option trades suggest Hewlett offer was leaked
(For more Reuters DEALTALKs, click [DEALTALK/])
By Doris Frankel
CHICAGO, Nov 12 (Reuters) - Will they ever learn?
One might think that pictures of hedge fund managers and executives in handcuffs from the Galleon and other recent insider trading cases would act as a deterrent to using material insider information to trade.
Yet someone piled into 3Com Corp's (COMS.O) bullish options only hours before Hewlett-Packard Co (HPQ.N) announced late on Wednesday it was buying the network equipment company at a big premium, raising suspicion that the news was leaked.
During Wednesday's trading session, 8,085 3Com call options, which can be used as a bet that a stock will rise to a certain price by a certain date, traded against only six put options, which are often used as bearish bets on a stock. The stock gained more than 5 percent to $5.69 on that day.
That's a ratio of 1,348 to one, an almost unfathomable ratio in terms of bullishness. The 8,000-plus call options amounted to 17 times the recent average daily call volume, according to option analytics firm Trade Alert, and the buyer stands to profit handsomely if the deal is consummated.
Options traders say an investigation by U.S. regulators could be in the offing.
"He might be a lucky speculator or just foolish," said Michael Schwartz, chief options strategist at Oppenheimer & Co.
"An experienced trader would not use inside information in the options market in the current investigative environment."
Indeed. The authorities do seem to have their act together when the behavior is obvious -- take the Perot Systems case announced only two days after the Dell takeover news.
The U.S. Securities and Exchange Commission on Sept. 23 charged a Texas man with insider trading. The agency alleged he reaped $8.64 million of illegal profit related to Dell Inc's (DELL.O) planned purchase of Perot Systems Corp PER.N after the offer was announced on Sept. 21.
U.S. authorities are also probing the largest hedge fund insider trading case that has so far ensnared the Galleon Group hedge fund, other fund managers, Silicon Valley executives, traders and lawyers. For more detail, click [ID:nN05365147]
TRADING OPTIONS ON RUMORS
When it comes to deal activity, the line between speculation and trading on insider information blurs in the options market.
Trading any security on inside information is illegal. But trading on rumors is legal, and investors are attracted to options for their low cost, leverage and limited risk.
Rumors have a way of feeding on themselves, however.
"Many times heavy option volume begets more volume," Oppenheimer's Schwartz said.
It is not unusual to see a large number of call options traded before a takeover announcement, said Dan Haugh, president of Chicago-based PTI Securities & Futures LP, a money management firm.
This is what happened Wednesday. One trader appeared to be willing to stick his head on the chopping block with a big purchase of 3Com call options prior to the announcement.
One large institution bought a total of 6,900 contracts in the November and December $5 at-the-money call strikes in 3Com during the session when shares were trading at $5.58, said Trade Alert president Henry Schwartz.
The 3Com call volume was focused in the November and December $5 calls, which convey the right to buy 3Com shares at $5 each. The volume in both strikes far exceeded their contracts outstanding, indicating fresh positions were put on.
"You rarely make a very large purchase of calls for one single reason," Haugh said. "It could be that a trader has been following a company for weeks. Therefore, insider trading cases are very difficult to prove."
The SEC had no comment on the activity. (Additional reporting by Rachelle Younglai in Washington; Editing by Kenneth Barry)
Source: http://www.reuters.com
DEALTALK-3Com trades a red flag in sensitive environment Added: (12.11.2009)
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