Calendar spreads & risk arbitrage

Discussion in 'Options' started by toryj, Mar 12, 2009.

  1. toryj


    I'm wondering if it's possible to profit from cash tender offers using calendar spreads.

    Roche, for example, is offering $95 per share for the stake in Genentech (DNA) that they don't already own.

    I used the optionsXpress trade calculator for an Apr 90/Sep 90 calendar spread but the P&L looks unreal; what am I missing here (apart from the obvious fact that I haven't fully wrapped my head around this strategy)?

    Here's a screenshot of OX's P&L diagram:

  2. Well, I am no expert in takeovers nor in this deal, but I looked it up quickly and saw "A majority of shares besides Roche's still must be tendered for the deal to happen, with a deadline of March 25."

    The problem is very simply this - assuming the deal goes through at $95, the IVs on both month's options will fall to near 0, thereby making the value of each $500, or $0 for the spread total.

    On the other hand, if the deal collapsed, DNA could fall quite a bit, making the short options cheap and the long options could still have some value, but I wouldn't count on the short options to collapse.

    To test what will happen if the deal is finalized, set the parameters in OptionsXpress to assume a 0 IV and you will see the problem.

    The chart in OX basically looks like it would if there was no deal and if DNA for example was $90 at April expiration - the Apr 90s would be almost worthless, but the far month would still have quite a bit of value. Again though, I would assume the deal will go through - which will tank the IV on both sides to near 0, which will make the calendar spread a 100% loss.