Options Market Foretold Family Dollar Buyout Bid

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While Nelson Peltz's bid for Family Dollar Stores caught equity traders by surprise, options players were well ahead of the deal, selling puts before it was announced.

Reports that Peltz, the investor famous for bets on restaurant chains like Wendy's , is offering to buy the discount retailer for $55 to $60 a share in cash — a 25% premium to Family Dollar's share price — sent the stock 21% higher on Wednesday to close at $53.25.

"Family Dollar saw quite a lot of activity in puts in the days leading up to the Peltz's bid for the company," said Michael Khouw, Cantor Fitzgerald's Director of U.S. Equity Derivatives Trading. But Khouw noted that much of the put activity centered around put selling, which is a bullish strategy.

The bullish bets on Family Dollar in the days before the bid was announced weren't as obvious as buying near-dated calls, Khouw added. Rather, option trades were using a more sophisticated strategy that involved sales of longer-dated, further out-of-the-money call and put options anticipating both the short term move in the stock, and potential sharp declines in longer-dated options premiums that typically accompany cash takeovers.

"Many market participants try to make educated guesses on stocks that may be candidates for a takeover - was that the case here? Can't say for sure, but it certainly looks like there were some winners in the options markets on Family Dollar," added Khouw, who is an Options Actioncontributor.

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