GO
Loading...

Why Traders Should Watch the Gap

Gap enjoyed unusually high call option activity on Friday, after a report that the company has hired an advisor following interest from Japan's Fast Retailing Co.

The Gap's flagship store in San Francisco
Getty Images
The Gap's flagship store in San Francisco

Call volume was 8.6 times the average, and the stock closed 4.9 percent higher on the day. The biggest trade of the day was the purchase of 1,826 March 36-strike calls for $0.51, which was done with the stock at $33.00. This trade will profit if Gap is above $36.51, or 10.6 percent higher, at March expiration.

Although the news moving this stock is just a rumor for now, there could definitely be some merit to it. Fast Retailing Co. CEO Tadashi Yanai has said in the past that he is seeking acquisitions in the US in order to boost global sales six-fold over the next ten years.

And not only is Gap a definitive American middle-class brand, but it came roaring back to life in January. The company posted an 8 percent increase in comparable sales in January, with all brands showing a rise. Meanwhile, international sales were slightly more sluggish, posting only a 1 percent comparable sales increase.

In 2012, Gap was hard at work restructuring management and their brand image, and it appears to be paying off. The big change to management was to pull all international brands under the U.S. brand managers. This means that the revitalization of Gap's US brands could soon been seen overseas. In addition to this management shakeup, Gap also acquired high-end retailer Intermix. This rounds out Gap's brand portfolio, and Intermix's brand Athleta is establishing itself as a strong competitor to Lululemon Athletica.

While there could be some fast money to be made on Gap if the takeover rumors turn out to be true, there is also a longer-term growth story here that makes these upside calls that much more attractive. If Fast Retailing Co. is looking for US exposure, the Gap's strong sales growth across the board in January would make them an ideal candidate. But even without an acquisition, Gap is making changes in order to stay on top of its target markets at home and abroad. International sales will be the key to Gap's growth in 2013, so investors should keep a close eye on those numbers.

Buying upside calls here is a cheap way to gain exposure to Gap's growth and a potential takeover without taking too much downside risk should the rumors turn out to be false. One thing I like to do is continue to watch upside call activity, and see if it continues for a few more days — this would provide some confirmation. There is not a lot of time for these calls to pay out big bucks, so look to see if Gap makes a big price move to the upside in the next couple of days.

I have no position, mind you.

Disclosures: None to report.

Brian Stutland is Managing Member of Stutland Equities and a contributor to CNBC's "Options Action."