Potash Corp. of Saskatchewan (NYSE: POT) rejected BHP Billiton Limited’s (NYSE: BHP) unsolicited takeover bid, saying it was “grossly inadequate.” But it seems the market expects this to resolve in a predominantly cash deal. With a stock north of $140 at Tuesday’s close on a $130 bid, it doesn’t take rocket science to expect the company to settle somewhere higher.
What’s interesting is that if you look at the options markets, you’d pretty much assume this was a done deal. As done as a hostile bid with no agreement in sight can be anyway.
POT September options are trading at about a 35 volatility. Even if the company reaches an agreement tomorrow, POT is not going off the board before September, and it’s not going off the board at this price either (i.e., there’s at least one more gap day ahead). So it is somewhat hard to argue that the stock is wildly expensive here.
POT options out to January 2011 now carry a mid-20s volatility. That’s a good 10 points below typical levels in POT options about that far out (see the chart below). And POT options out to January 2012 now trade at a 20 volatility and below.
BHP options out to Jan 2011 trade at a 38 volatility, and slightly higher out to January 2012.
If the market expected a stock merger, BHP and POT volatility levels would converge, not repel. POT’s option activity is clearly saying there’s not much time value owning longer-term paper in POT.
If you think POT is going to stonewall and BHP is going to walk away, there’s a huge opportunity here. But the market is generally pretty efficient when the arbitrage gang gets involved, so I’d refrain from placing that bet.
Follow Adam Warner on Twitter @agwarner
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